Using implied volatility to measure uncertainty about interest rates
Option prices can be used to infer the level of uncertainty about future asset prices. The first two parts of this article explain such measures (implied volatility) and how they can differ from the market's true expectation of uncertainty. The third then estimates the implied volatility of three-month eurodollar interest rates from 1985 to 2001 and evaluates its ability to predict realized volatility. Implied volatility shows that uncertainty about short-term interest rates has been falling for almost 20 years, as the levels of interest rates and inflation have fallen. And changes in implied volatility are usually coincident with major news about the stock market, the real economy, and monetary policy.
Volume (Year): (2005)
Issue (Month): May ()
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- Bates, David S., 2003. "Empirical option pricing: a retrospection," Journal of Econometrics, Elsevier, vol. 116(1-2), pages 387-404.
- Andrew Ang & Robert J. Hodrick & Yuhang Xing & Xiaoyan Zhang, 2004.
"The Cross-Section of Volatility and Expected Returns,"
NBER Working Papers
10852, National Bureau of Economic Research, Inc.
- Andrew Ang & Robert J. Hodrick & Yuhang Xing & Xiaoyan Zhang, 2006. "The Cross-Section of Volatility and Expected Returns," Journal of Finance, American Finance Association, vol. 61(1), pages 259-299, 02.
- Black, Fischer & Scholes, Myron S, 1972. "The Valuation of Option Contracts and a Test of Market Efficiency," Journal of Finance, American Finance Association, vol. 27(2), pages 399-417, May.
- Black, Fischer, 1976. "The pricing of commodity contracts," Journal of Financial Economics, Elsevier, vol. 3(1-2), pages 167-179.
- Barone-Adesi, Giovanni & Whaley, Robert E, 1987. " Efficient Analytic Approximation of American Option Values," Journal of Finance, American Finance Association, vol. 42(2), pages 301-20, June.
- Beckers, Stan, 1981. "Standard deviations implied in option prices as predictors of future stock price variability," Journal of Banking & Finance, Elsevier, vol. 5(3), pages 363-381, September.
- Bates, David S., 2000. "Post-'87 crash fears in the S&P 500 futures option market," Journal of Econometrics, Elsevier, vol. 94(1-2), pages 181-238.
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