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Forecasting returns and risk through implied volatility: A dual-threshold investment framework

Author

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  • Chih-hsiang Hsu

    (Department of Finance, Ming Chuan University, Taiwan)

Abstract

This study explores the non-linear relationship between implied volatility and future equity returns. We document a U-shaped link between implied volatility and ETF performance across three index pairs: VIX-SPY, VXN-QQQ, and VXD-DIA, suggesting that extreme volatility may signal market rebounds. Based on this, we develop a two-threshold trading rule that reallocates between equities and bonds. Backtesting results show that the strategy improves risk-adjusted returns and reduces drawdowns relative to a buy-and-hold approach.

Suggested Citation

  • Chih-hsiang Hsu, 2025. "Forecasting returns and risk through implied volatility: A dual-threshold investment framework," Economics Bulletin, AccessEcon, vol. 45(4), pages 1926-1938.
    • Handle: RePEc:ebl:ecbull:eb-25-00196
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    File URL: http://www.accessecon.com/Pubs/EB/2025/Volume45/EB-25-V45-I4-P167.pdf
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    JEL classification:

    • G1 - Financial Economics - - General Financial Markets

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