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How Integrated are Credit and Equity Markets? Evidence from Index Options

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  • PIERRE COLLIN‐DUFRESNE
  • BENJAMIN JUNGE
  • ANDERS B. TROLLE

Abstract

We study the extent to which credit index (CDX) options are priced consistent with S&P 500 (SPX) equity index options. We derive analytical expressions for CDX and SPX options within a structural credit‐risk model with stochastic volatility and jumps using new results for pricing compound options via multivariate affine transform analysis. The model captures many aspects of the joint dynamics of CDX and SPX options. However, it cannot reconcile the relative levels of option prices, suggesting that credit and equity markets are not fully integrated. A strategy of selling CDX volatility yields significantly higher excess returns than selling SPX volatility.

Suggested Citation

  • Pierre Collin‐Dufresne & Benjamin Junge & Anders B. Trolle, 2024. "How Integrated are Credit and Equity Markets? Evidence from Index Options," Journal of Finance, American Finance Association, vol. 79(2), pages 949-992, April.
    • Handle: RePEc:bla:jfinan:v:79:y:2024:i:2:p:949-992
    DOI: 10.1111/jofi.13300
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