Option trading strategies based on semi-parametric implied volatility surface prediction
AbstractWe propose constructing a set of trading strategies using predicted option returns for a relatively small forecasting period of ten trading days to form profitable hold-to-expiration, equally weighted, zero-cost portfolios based on 1-month at-the-money call and put options. We use a statistical machine learning procedure based on regression trees to accurately predict future implied volatility surfaces. Such accurate forecasts are needed to obtain reliable option returns used as trading signals in our strategies. We test the performance of the proposed strategies on options on the S&P 100 and on its constituents for the time period between 2002 and 2006: positive annualized returns of up to more than 50% are achieved.
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Bibliographic InfoPaper provided by Department of Economics, University of St. Gallen in its series University of St. Gallen Department of Economics working paper series 2009 with number 2009-24.
Length: 31 pages
Date of creation: Aug 2009
Date of revision:
Option Trading Strategies; Implied Volatility Surface; Option Pricing; Forecasting; Boosting; Regression Trees;
Find related papers by JEL classification:
- C13 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Estimation: General
- C14 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Semiparametric and Nonparametric Methods: General
- C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods
- C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
- G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
This paper has been announced in the following NEP Reports:
- NEP-ALL-2009-08-22 (All new papers)
- NEP-CBE-2009-08-22 (Cognitive & Behavioural Economics)
- NEP-EXP-2009-08-22 (Experimental Economics)
- NEP-GTH-2009-08-22 (Game Theory)
- NEP-MIC-2009-08-22 (Microeconomics)
- NEP-UPT-2009-08-22 (Utility Models & Prospect Theory)
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"The dynamics of implied volatilities: A common principal components approach,"
SFB 373 Discussion Papers
2001,38, Humboldt University of Berlin, Interdisciplinary Research Project 373: Quantification and Simulation of Economic Processes.
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