The Impact of Jump Distributions on the Implied Volatility of Variance

Elisa Nicolato; Camilla Pisani; David Sloth Pedersen

doi:10.1137/16M1059072

The Impact of Jump Distributions on the Implied Volatility of Variance

Elisa Nicolato, Camilla Pisani, David Sloth Pedersen

Institut for Økonomi

Publikation: Bidrag til tidsskrift/Konferencebidrag i tidsskrift /Bidrag til avis › Tidsskriftartikel › Forskning › peer review

7 Citationer (Scopus)

Abstract

We consider a tractable afine stochastic volatility model that generalizes the seminal Heston model by augmenting it with jumps in the instantaneous variance process. In this framework, we consider both realized variance options and VIX options, and we examine the impact of the distribution of jumps on the associated implied volatility smile. We provide sufficient conditions for the asymptotic behavior of the implied volatility of variance for small and large strikes. In particular, by selecting alternative jump distributions, we show that one can obtain fundamentally different shapes of the implied volatility of variance smile|some clearly at odds with the upward-sloping volatility skew observed in variance markets.

Originalsprog	Engelsk
Tidsskrift	SIAM Journal on Financial Mathematics
Vol/bind	8
Nummer	1
Sider (fra-til)	28-53
Antal sider	26
ISSN	1945-497X
DOI	https://doi.org/10.1137/16M1059072
Status	Udgivet - 2017

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abstract = "We consider a tractable afine stochastic volatility model that generalizes the seminal Heston model by augmenting it with jumps in the instantaneous variance process. In this framework, we consider both realized variance options and VIX options, and we examine the impact of the distribution of jumps on the associated implied volatility smile. We provide sufficient conditions for the asymptotic behavior of the implied volatility of variance for small and large strikes. In particular, by selecting alternative jump distributions, we show that one can obtain fundamentally different shapes of the implied volatility of variance smile|some clearly at odds with the upward-sloping volatility skew observed in variance markets.",

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N2 - We consider a tractable afine stochastic volatility model that generalizes the seminal Heston model by augmenting it with jumps in the instantaneous variance process. In this framework, we consider both realized variance options and VIX options, and we examine the impact of the distribution of jumps on the associated implied volatility smile. We provide sufficient conditions for the asymptotic behavior of the implied volatility of variance for small and large strikes. In particular, by selecting alternative jump distributions, we show that one can obtain fundamentally different shapes of the implied volatility of variance smile|some clearly at odds with the upward-sloping volatility skew observed in variance markets.

AB - We consider a tractable afine stochastic volatility model that generalizes the seminal Heston model by augmenting it with jumps in the instantaneous variance process. In this framework, we consider both realized variance options and VIX options, and we examine the impact of the distribution of jumps on the associated implied volatility smile. We provide sufficient conditions for the asymptotic behavior of the implied volatility of variance for small and large strikes. In particular, by selecting alternative jump distributions, we show that one can obtain fundamentally different shapes of the implied volatility of variance smile|some clearly at odds with the upward-sloping volatility skew observed in variance markets.

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KW - Realized Variance

KW - Stochastic Volatility

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JF - SIAM Journal on Financial Mathematics

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The Impact of Jump Distributions on the Implied Volatility of Variance

Abstract

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