Option Pricing with State-dependent Pricing Kernel

• Tác giả: Peter Reinhard Hansen, Zhuo Huang, Chen Tong
• Ngôn ngữ: eng
• Ký hiệu phân loại: 003.56 Decision theory
• Thông tin xuất bản: 2021
• Bộ sưu tập: Metadata
• ID: 168346

Tóm tắt

We introduce a new volatility model for option pricing that combines Markov switching with the Realized GARCH framework. This leads to a novel pricing kernel with a state-dependent variance risk premium and a pricing formula for European options, which is derived with an analytical approximation method. We apply the Markov switching Realized GARCH model to S&P 500 index options from 1990 to 2019 and find that investors' aversion to volatility-specific risk is time-varying. The proposed framework outperforms competing models and reduces (in-sample and out-of-sample) option pricing errors by 15% or more.