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The Option-iPoD

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  • Christian Capuano

Abstract

We present a framework to derive the probability of default implied by the price of equity options. The framework does not require any strong statistical assumption, and provide results that are informative on the expected developments of balance sheet variables, such as assets, equity and leverage, and on the Greek letters (delta, gamma and vega). We show how to extend the framework by using information from the price of a zero-coupon bond and CDS-spreads. In the episode of the collapse of Bear Stearns, option-iPoD was able to early signal market sentiment.

Suggested Citation

  • Christian Capuano, 2008. "The Option-iPoD," IMF Working Papers 2008/194, International Monetary Fund.
    • Handle: RePEc:imf:imfwpa:2008/194
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    1. Buchen, Peter W. & Kelly, Michael, 1996. "The Maximum Entropy Distribution of an Asset Inferred from Option Prices," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 31(1), pages 143-159, March.
    2. Merton, Robert C, 1974. "On the Pricing of Corporate Debt: The Risk Structure of Interest Rates," Journal of Finance, American Finance Association, vol. 29(2), pages 449-470, May.
    3. Mr. Manmohan Singh & Mr. Jochen R. Andritzky, 2006. "The Pricing of Credit Default Swaps During Distress," IMF Working Papers 2006/254, International Monetary Fund.
    4. Mr. Jorge A Chan-Lau, 2006. "Market-Based Estimation of Default Probabilities and its Application to Financial Market Surveillance," IMF Working Papers 2006/104, International Monetary Fund.
    5. Miller, Douglas J. & Liu, Wei-han, 2002. "On the recovery of joint distributions from limited information," Journal of Econometrics, Elsevier, vol. 107(1-2), pages 259-274, March.
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    Cited by:

    1. Dicembrino, Claudio & Scandizzo, Pasquale Lucio, 2011. "Can portfolio diversification increase systemic risk? evidence from the U.S and European mutual funds market," MPRA Paper 33715, University Library of Munich, Germany.
    2. Philipp Matros & Johannes Vilsmeier, 2012. "Measuring Option Implied Degree of Distress in the US Financial Sector Using the Entropy Principle," Working Papers 123, Bavarian Graduate Program in Economics (BGPE).
    3. Matros, Philipp & Vilsmeier, Johannes, 2012. "Measuring option implied degree of distress in the US financial sector using the entropy principle," Discussion Papers 30/2012, Deutsche Bundesbank.
    4. Johannes Vilsmeier, 2011. "Updating the Option Implied Probability of Default Methodology," Working Papers 107, Bavarian Graduate Program in Economics (BGPE).
    5. Dimitrios Bisias & Mark Flood & Andrew W. Lo & Stavros Valavanis, 2012. "A Survey of Systemic Risk Analytics," Annual Review of Financial Economics, Annual Reviews, vol. 4(1), pages 255-296, October.
    6. Rainer Masera, 2011. "Taking the moral hazard out of banking: the next fundamental step in financial reform," PSL Quarterly Review, Economia civile, vol. 64(257), pages 105-142.
    7. Ilknur Zer, 2015. "Information Disclosures, Default Risk, and Bank Value," Finance and Economics Discussion Series 2015-104, Board of Governors of the Federal Reserve System (U.S.).
    8. Saldías, Martín, 2013. "Systemic risk analysis using forward-looking Distance-to-Default series," Journal of Financial Stability, Elsevier, vol. 9(4), pages 498-517.
    9. Chowdhury, Biplob & Dungey, Mardi & Kangogo, Moses & Sayeed, Mohammad Abu & Volkov, Vladimir, 2019. "The changing network of financial market linkages: The Asian experience," International Review of Financial Analysis, Elsevier, vol. 64(C), pages 71-92.
    10. Jose Giancarlo Gasha & Mr. Andre O Santos & Mr. Jorge A Chan-Lau & Mr. Carlos I. Medeiros & Mr. Marcos R Souto & Christian Capuano, 2009. "Recent Advances in Credit Risk Modeling," IMF Working Papers 2009/162, International Monetary Fund.
    11. Vilsmeier, Johannes, 2011. "Updating the Option Implied Probability of Default Methodology," University of Regensburg Working Papers in Business, Economics and Management Information Systems 462, University of Regensburg, Department of Economics.
    12. Saldías, Martín, 2013. "Systemic risk analysis using forward-looking Distance-to-Default series," Journal of Financial Stability, Elsevier, vol. 9(4), pages 498-517.
    13. Markus Brunnermeier & Simon Rother & Isabel Schnabel & Itay Goldstein, 2020. "Asset Price Bubbles and Systemic Risk," The Review of Financial Studies, Society for Financial Studies, vol. 33(9), pages 4272-4317.
    14. Stefano Fenoaltea, 2010. "The reconstruction of historical national accounts: the case of Italy," PSL Quarterly Review, Economia civile, vol. 63(252), pages 77-96.
    15. Antonio Di Cesare & Anna Rogantini Picco, 2018. "A Survey of Systemic Risk Indicators," Questioni di Economia e Finanza (Occasional Papers) 458, Bank of Italy, Economic Research and International Relations Area.
    16. Matros, Philipp & Vilsmeier, Johannes, 2014. "The multivariate option iPoD framework: assessing systemic financial risk," Discussion Papers 20/2014, Deutsche Bundesbank.
    17. Philipp Matros & Johannes Vilsmeier, 2013. "The Multivariate Option iPoD Framework - Assessing Systemic Financial Risk," Working Papers 143, Bavarian Graduate Program in Economics (BGPE).
    18. Rainer Masera, 2010. "Reforming financial systems after the crisis: a comparison of EU and USA," PSL Quarterly Review, Economia civile, vol. 63(255), pages 299-362.
    19. Sessi Tokpavi, 2013. "Testing for the Systemically Important Financial Institutions: a Conditional Approach," EconomiX Working Papers 2013-27, University of Paris Nanterre, EconomiX.
    20. Madan, Dilip B. & Schoutens, Wim, 2013. "Systemic risk tradeoffs and option prices," Insurance: Mathematics and Economics, Elsevier, vol. 52(2), pages 222-230.
    21. Civitarese, Jamil, 2016. "Volatility and correlation-based systemic risk measures in the US market," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 459(C), pages 55-67.
    22. Alejandro Bernales & Thanos Verousis & Nikolaos Voukelatos & Mengyu Zhang, 2020. "What do we know about individual equity options?," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 40(1), pages 67-91, January.
    23. Vilsmeier, Johannes, 2014. "Updating the option implied probability of default methodology," Discussion Papers 43/2014, Deutsche Bundesbank.

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    Keywords

    WP; zero-coupon bond;

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