Dispersion trading: Empirical evidence from U.S. options markets
This paper develops empirical evidence on the viability of a form of volatility trading known as "dispersion trading." The results shed light on the efficiency with which U.S. options markets price volatility. Using end-of-day implied volatilities extracted from equity option prices for the stocks that comprise the S&P 500, the implied volatility of the S&P 500 is computed using a modification of the Markowitz variance equation. This Markowitz-implied volatility is then compared to the implied volatility of the S&P 500 extracted directly from index options on the S&P 500. These contemporaneous measures of implied volatility are then examined for exploitable discrepancies both with and without transaction costs. The study covers the period October 31, 2005 through November 1, 2007. It is shown that, from a trader's perspective, index option implied volatility tended to be more often "rich" and component volatilities tended to be more often "cheap." Nevertheless, there were times when the opposite was true; suggesting that potential dispersion trades can run in either direction.
If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.
References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Harry Markowitz, 1952. "Portfolio Selection," Journal of Finance, American Finance Association, vol. 7(1), pages 77-91, 03.
- Joshua D. Coval, 2001. "Expected Option Returns," Journal of Finance, American Finance Association, vol. 56(3), pages 983-1009, 06.
- Christensen, B. J. & Prabhala, N. R., 1998. "The relation between implied and realized volatility," Journal of Financial Economics, Elsevier, vol. 50(2), pages 125-150, November.
When requesting a correction, please mention this item's handle: RePEc:eee:glofin:v:20:y:2009:i:3:p:289-301. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Zhang, Lei)
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.