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A Semiparametric Estimation of Liquidity Effects on Option Pricing

  • Ferreira García, María Eva
  • Gago, Mónica
  • Rubio Irigoyen, Gonzalo

This paper proposes a semiparametric option pricing model with liquidity, as proxied by the relative bid-ask spread. The nonparametric volatility function with liquidity as an explanatory variable is estimated using the Symmetrized Nearest Neighbors (SNN) estimator rather than the traditional kernel estimator. Moreover, special care is taken in obtaining the smoothing parameter. The in-sample performance of the model turns out to be statistically favorable relative to a competing model without liquidity. However, the out-of-sample performance of both models is quite disappointing despite the fact that we are not to reject the stability of risk-neutral densities estimated over different quarters during our sample period.

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File URL: http://hdl.handle.net/10810/5903
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Paper provided by Universidad del País Vasco - Departamento de Economía Aplicada III (Econometría y Estadística) in its series BILTOKI with number 1999-08.

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Date of creation: Sep 1999
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Handle: RePEc:ehu:biltok:199908
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Order Information: Postal: Dpto. de Econometría y Estadística, Facultad de CC. Económicas y Empresariales, Universidad del País Vasco, Avda. Lehendakari Aguirre 83, 48015 Bilbao, Spain
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