Does implied volatility reflect a wider information set than econometric forecasts?
AbstractMuch research has addressed the relative performance of option implied volatilities and econometric model based forecasts in terms of forecasting asset return volatility. The general theme to come from this body of work is that implied volatility is a superior forecast. Some authors attribute this to the fact that option markets use a wider information set when forming their forecasts of volatility. This article considers this issue and determines whether S&P 500 implied volatility reflects a set of economic information beyond its impact on the prevailing level of volatility. It is found, that while the implied volatility subsumes this information, as do model based forecasts, this is only due to its impact on the current or prevailing level of volatility. Therefore, it appears as though implied volatility does not reflect a wider information set than model based forecasts, implying that implied volatility forecasts simply reflect volatility persistence in much the same way of as do econometric models.
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Bibliographic InfoPaper provided by National Centre for Econometric Research in its series NCER Working Paper Series with number 15.
Length: 9 pages
Date of creation: 22 May 2007
Date of revision:
Implied volatility; VIX; volatility forecasts; informational efficiency;
Find related papers by JEL classification:
- C12 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Hypothesis Testing: General
- C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models &bull Diffusion Processes
- G00 - Financial Economics - - General - - - General
- G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
This paper has been announced in the following NEP Reports:
- NEP-ALL-2007-06-02 (All new papers)
- NEP-ECM-2007-06-02 (Econometrics)
- NEP-ETS-2007-06-02 (Econometric Time Series)
- NEP-FOR-2007-06-02 (Forecasting)
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