Skew and implied leverage effect: smile dynamics revisited

DOI10.1142/S0219024915500223MaRDI QIDQ5265236zbMATH OpenOpenAlexFDO

Authors Vincent Vargas, Tung-Lam Dao, Jean-Philippe Bouchaud

Publication date 23 July 2015

Published in International Journal of Theoretical and Applied Finance (Search for Journal in Brave)

Full work available at URL https://arxiv.org/abs/1311.4078

zbMATH Keywords

option pricingskewnesssmile dynamics

Mathematics Subject Classification ID

Applications of statistics to actuarial sciences and financial mathematics (62P05) Derivative securities (option pricing, hedging, etc.) (91G20)

Abstract: We revisit the ``Smile Dynamics problem, which consists in relating the implied leverage (i.e. the correlation of the at-the-money volatility with the returns of the underlying) and the skew of the option smile. The ratio between these two quantities, called ``Skew-Stickiness Ratio (SSR) by Bergomi (Smile Dynamics IV, RISK, 94-100, December 2009), saturates to the value 2 for linear models in the limit of small maturities, and converges to 1 for long maturities. We show that for more general, non-linear models (such as the asymmetric GARCH model), Bergomi's result must be modified, and can be larger than 2 for small maturities. The discrepancy comes from the fact that the volatility skew is, in general, different from the skewness of the underlying. We compare our theory with empirical results, using data both from option markets and from the underlying price series, for the S&P500 and the DAX. We find, among other things, that although both the implied leverage and the skew appear to be too strong on option markets, their ratio is well explained by the theory. We observe that the SSR indeed becomes larger than 2 for small maturities.

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Cited in

(9)

• The impact of the leverage effect on the implied volatility smile: evidence for the German option market
• Option-implied skewness: insights from ITM-options
• Skewness term-structure tests
• Smile in motion: an intraday analysis of asymmetric implied volatility
• The skewed multifractal random walk with applications to option smiles
• Implied volatility of leveraged ETF options
• Option implied VIX, skew and kurtosis term structures
• Exponentiation of conditional expectations under stochastic volatility
• Path shadowing Monte Carlo

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