Too-Systemic-To-Fail: What Option Markets Imply About Sector-wide Government Guarantees

Stijn Van Nieuwerburgh, Hanno Lustig and Bryan Kelly

No 9023, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: We examine the pricing of financial crash insurance during the 2007-2009 financial crisis in U.S. option markets. A large amount of aggregate tail risk is missing from the price of financial sector crash insurance during the financial crisis. The difference in costs of out-of-the-money put options for individual banks, and puts on the financial sector index, increases fourfold from its pre-crisis 2003-2007 level. We provide evidence that a collective government guarantee for the financial sector, which lowers index put prices far more than those of individual banks, explains the divergence in the basket-index put spread.

Keywords: Financial crisis; Government bailout; Option pricing models; Systemic risk; Too-big-to-fail (search for similar items in EconPapers)
JEL-codes: E44 E60 G12 G13 G18 G21 G28 H23 (search for similar items in EconPapers)
Date: 2012-06
New Economics Papers: this item is included in nep-ban, nep-cba, nep-mac and nep-rmg
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Citations: View citations in EconPapers (13)

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Related works:
Journal Article: Too-Systemic-to-Fail: What Option Markets Imply about Sector-Wide Government Guarantees (2016)
Working Paper: Too-Systemic-To-Fail: What Option Markets Imply About Sector-wide Government Guarantees (2011)
Working Paper: Too-Systemic-To-Fail: What Option Markets Imply About Sector-wide Government Guarantees (2011)
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