The implied-realized volatility relation in foreign exchange options markets

Kellard, Neil and Dunis, Christian L. and Sarantis, Nicholas (2009) The implied-realized volatility relation in foreign exchange options markets. Centre for International Capital Markets discussion papers, 2009 (19). pp. 1-39. ISSN 1749-3412

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Abstract

Almost all relevant literature has characterized implied volatility as a biased predictor of realized volatility. In this paper we provide new time series techniques to investigate the validity of this finding in several foreign exchange options markets, including the Euro market. First, we develop a new fractional cointegration test that is shown to be robust to both stationary and nonstationary regions. Second, we employ both intra-day and daily data to measure realized volatility in order to assess the relevance of data frequency in resolving the bias. Third, we use data on implied volatility traded on the market. In contrast to previous studies, we show that the frequency of data used for measuring realized volatility within a fractionally cointegrating framework is important for the results of unbiasedness tests. Significantly, for many popular exchange rates, the use of intra-day rather than daily data affects the emergence of a different bias, as the possibility of a fractionally integrated risk premium admits itself!

Item Type: Article
Uncontrolled Keywords: Centre for International Capital Markets discussion papers; CICM discussion papers; market efficiency; options markets; fractional cointegration; narrow band least squares; bootstrap; traded volatility; intra-day data
Subjects: 300 Social sciences > 330 Economics
Department: Guildhall School of Business and Law
Depositing User: Mary Burslem
Date Deposited: 21 Apr 2015 11:42
Last Modified: 21 Apr 2015 11:42
URI: http://repository.londonmet.ac.uk/id/eprint/451

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