Book chapter
20 Testing option pricing models
Handbook of Statistics, pp.567-611
Elsevier Science & Technology
1996
DOI: 10.1016/S0169-7161(96)14022-0
Abstract
This chapter focuses on the central empirical issue in option pricing, which is whether the distributions implicit in option prices are consistent with the conditional distributions of the underlying asset prices. Tests of consistency are almost invariably conducted within the framework of a particular distributional hypothesis, and therefore to some extent involve a joint test of consistency and of that distributional hypothesis. The most common framework by far has been the geometric Brownian motion hypothesis underlying the Black-Scholes model. This one-parameter model has been used extensively to examine whether volatility assessments inferred from option prices are consistent with the conditional volatility of the underlying asset price. Results have been mixed: implicit volatilities from most currency options are relatively unbiased forecasts of future currency volatility, whereas substantial biases have been found in implicit volatilities from stock and stock index options. There also seems to have been substantial evolution in the sophistication of option markets. Results including the early years of options markets typically involve more noise (for example, more arbitrage violations) and a greater divergence from the time series properties of asset prices and implicit volatilities than found in studies from later periods.
Details
- Title: Subtitle
- 20 Testing option pricing models
- Creators
- David S. Bates
- Resource Type
- Book chapter
- Publication Details
- Handbook of Statistics, pp.567-611
- DOI
- 10.1016/S0169-7161(96)14022-0
- eISSN
- 1875-7448
- ISSN
- 0169-7161
- Publisher
- Elsevier Science & Technology
- Language
- English
- Date published
- 1996
- Academic Unit
- Finance
- Record Identifier
- 9984380473902771
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