Volatility Indexes seem to point to the Past

Schroeder, Gerhard (2009): Volatility Indexes seem to point to the Past.

Abstract

In theory, by institutional trading options (wholesale), professional market participants asses and set future volatilities that can be identified for the retail using the Black-Scholes-formula in reverse. In reality, as regression analysis suggests, it is historical market data which instead are used to determine future values. Further analysis shows that historical volatilities are insufficient predictors. Yet this questionable practice is considered by international accounting standards (IAS 39/IFRS) to allow "historical data and implied volatilities" for "reasonable estimations". In a kind of short-circuit, historical volatilities are introduced into option trading and returned as implied volatility-indexes. In reality, both differ significantly from future values. Comparing the volatility of the past nine weeks with that of the following nine weeks, estimation error ranges from four to over ten percentage points.

• Item Type: MPRA Paper
• Language: English
• Keywords: Volatility; Prediction; EU Accounting Standards; IAS; Correlation; GARCH; Derivatives; VDAX; VIX; S&P 500
• Subjects: B - History of Economic Thought, Methodology, and Heterodox Approaches > B2 - History of Economic Thought since 1925 > B23 - Econometrics ; Quantitative and Mathematical Studies; E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E44 - Financial Markets and the Macroeconomy; M - Business Administration and Business Economics ; Marketing ; Accounting ; Personnel Economics > M4 - Accounting and Auditing

References

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Fahrmeir, Ludwig et al.: "Statistik", 3. Ed., Berlin, Heidelberg, (1997-2001)

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The IASC Foundation in Delaware and London maintains © of all IAS and IFRS publications including the ones confirmed as mandatory EU-Accounting Standards. Pls contact the IASB in London.

There are well documented Nobel Prize pages covering B&S and GARCH in the Web.

Historical Critics regarding the "B&S"-Formula (by years - a selection)

Galai, D.: „A Survey of Empirical Tests of Option-Pricing-Models“ in Brenner, S. Menachem (Hrsg.): "Option Pricing“ (1983)

Geyer Geske, R, W. Touros (1991): „Skewness, Kurtosis and Black-Scholes Mispricing“ In: Statistical Papers, Vol. 32, S. 299-309

Anderson, Alois L. J.: ZfB 91/1 (43.Jg.) S. 65-74: „Is the random walk dead“ Chapter 2 „Failure of the Gaussian Hypothesis"