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The Informational Content of Over-the-Counter Currency Options


  • Peter Christoffersen
  • Stefano Mazzotta


Policy makers and market participants often consider the forward-looking information in currency option valuations when making assessments about future developments in foreign exchange rates. Option implied volatilities can be used as forecasts of realized volatility and interval and density forecasts can be extracted from strangles and risk-reversals. The purpose of this paper is to assess the quality of such volatility, interval and density forecasts. We analyze option-based forecasts from a unique dataset consisting of over 10 years of daily data on over-the-counter (OTC) currency option prices. We find that the OTC implied volatilities explain a much larger share of the variation in realized volatility than has been found previously in studies relying on market-traded options. We also find that wide-range interval forecasts are often misspecified whereas narrow-range interval forecasts are well specified. Finally, we find that the option-based density forecasts are rejected in general. Graphical inspection of the density forecasts suggests that while the sources of rejections vary from currency to currency misspecification of the distribution tails is a common source of error. Les dirigeants et les participants du marché examinent souvent l'information prévisionnelle des options sur devises lorsqu'ils produisent des estimations quant aux développements futurs des taux de change étrangers. Les volatilités implicites des options peuvent être employées comme prévisions de la volatilité réalisée et les prévisions d'intervalles et de densités peuvent être extraites à partir de stellages (strangles) et de cylindres (risk-reversals). Le but de cet article est d'évaluer la qualité de telles prévisions des volatilités, intervalles et densités. Nous analysons des prévisions basées sur les options à partir d'une base de données unique comprenant 10 ans de données quotidiennes sur des prix d'options sur devises hors cote (OTC). Nous constatons que les volatilités implicites du marché hors cote expliquent une part beaucoup plus importante de la variation de la volatilité réalisée que celle qui a été mise en évidence précédemment dans les études basées sur des options transigées sur les marchés cotés. Nous constatons également que les prévisions d'intervalles de grande amplitude sont souvent mal spécifiées tandis que des prévisions d'intervalles de faible amplitude sont bien caractérisées. De plus, nous constatons que les prévisions de densité basées sur les options sont en général rejetées. L'étude graphique des prévisions de densité suggère que bien que les sources de rejets varient avec la devise, la spécification erronée des queues de distribution est une source d'erreur commune.

Suggested Citation

  • Peter Christoffersen & Stefano Mazzotta, 2004. "The Informational Content of Over-the-Counter Currency Options," CIRANO Working Papers 2004s-16, CIRANO.
  • Handle: RePEc:cir:cirwor:2004s-16

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    References listed on IDEAS

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    Cited by:

    1. Haas, Markus & Mittnik, Stefan & Mizrach, Bruce, 2006. "Assessing central bank credibility during the ERM crises: Comparing option and spot market-based forecasts," Journal of Financial Stability, Elsevier, vol. 2(1), pages 28-54, April.
    2. Guillermo Benavides Perales & Israel Felipe Mora Cuevas, 2008. "Parametric vs. non-parametric methods for estimating option implied risk-neutral densities: the case of the exchange rate Mexican peso – US dollar," Ensayos Revista de Economia, Universidad Autonoma de Nuevo Leon, Facultad de Economia, vol. 0(1), pages 33-52, May.

    More about this item


    Foreign exchange; volatility; interval; density; forecastings; devises; volatilité; intervalle; densité; prévisions;

    JEL classification:

    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods

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