IDEAS home Printed from https://ideas.repec.org/
MyIDEAS: Login to save this paper or follow this series

Can Tests Based on Option Hedging Errors Correctly Identify Volatility Risk Premia?

  • Nicole Branger

    ()

  • Christian Schlag

    ()

Registered author(s):

    Tests for the existence and the sign of the volatility risk premium are often based on expected option hedging errors. When the hedge is performed under the ideal conditions of continuous trading and correct model specification, the sign of the premium is the same as the sign of the mean hedging error for a large class of stochastic volatility option pricing models. We show, however, that the problems of discrete trading and model mis-specification, which are necessarily present in an empirical study, may cause the standard test to yield unreliable results. In particular, ignoring a possible jump risk premium can lead to incorrect conclusions about the volatility risk premium. We also show that delta-gamma hedges do not increase the reliability of the test compared to simple delta hedges.

    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.

    File URL: http://www.finance.uni-frankfurt.de/wp/404.pdf
    Download Restriction: no

    Paper provided by Department of Finance, Goethe University Frankfurt am Main in its series Working Paper Series: Finance and Accounting with number 136.

    as
    in new window

    Length:
    Date of creation: 2008
    Date of revision:
    Handle: RePEc:fra:franaf:136
    Contact details of provider: Postal: Senckenberganlage 31, 60054 Frankfurt
    Phone: 0049-69-798-28269
    Fax: 0049-69-798-28272
    Web page: http://www.finance.uni-frankfurt.de

    More information through EDIRC

    No references listed on IDEAS
    You can help add them by filling out this form.

    This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

    When requesting a correction, please mention this item's handle: RePEc:fra:franaf:136. 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: (Reinhard H. Schmidt)

    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.

    This information is provided to you by IDEAS at the Research Division of the Federal Reserve Bank of St. Louis using RePEc data.