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The role of time-varying jump risk premia in pricing stock index options

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  • Yun, Jaeho

Abstract

This paper examines out-of-sample option pricing performances for the affine jump diffusion (AJD) models by using the S&P 500 stock index and its associated option contracts. In particular, we investigate the role of time-varying jump risk premia in the AJD specifications. Our empirical analysis shows strong evidence in favor of time-varying jump risk premia in pricing cross-sectional options. We also find that, during a period of low volatility, the role of jump risk premia becomes less pronounced, making the differences across pricing performances of the AJD models not as substantial as during a period of high volatility. This finding can possibly explain poor pricing perfomances of the sophisticated AJD models in some previous studies whose sample periods can be characterized by low volatility.

Suggested Citation

  • Yun, Jaeho, 2011. "The role of time-varying jump risk premia in pricing stock index options," Journal of Empirical Finance, Elsevier, vol. 18(5), pages 833-846.
    • Handle: RePEc:eee:empfin:v:18:y:2011:i:5:p:833-846
    DOI: 10.1016/j.jempfin.2011.07.003
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    Cited by:

    1. Yun, Jaeho, 2014. "Out-of-sample density forecasts with affine jump diffusion models," Journal of Banking & Finance, Elsevier, vol. 47(C), pages 74-87.

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    More about this item

    Keywords

    Option pricing; Affine jump diffusion; Time-varying jump risk premia;
    All these keywords.

    JEL classification:

    • C1 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General
    • C5 - Mathematical and Quantitative Methods - - Econometric Modeling
    • G1 - Financial Economics - - General Financial Markets

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