Are classical option pricing models consistent with observed option second-order moments? Evidence from high-frequency data

Francesco Audrino and Matthias Fengler

Journal of Banking & Finance, 2015, vol. 61, issue C, 46-63

Abstract: As a means of validating an option pricing model, we compare the ex-post intra-day realized variance of options with the realized variance of the associated underlying asset that would be implied using assumptions as in the Black and Scholes (BS) model, the Heston, and the Bates model. Based on data for the S&P 500 index, we find that the BS model is strongly directionally biased due to the presence of stochastic volatility. The Heston model reduces the mismatch in realized variance between the two markets, but deviations are still significant. With the exception of short-dated options, we achieve best approximations after controlling for the presence of jumps in the underlying dynamics. Finally, we provide evidence that, although heavily biased, the realized variance based on the BS model contains relevant predictive information that can be exploited when option high-frequency data is not available.

Keywords: Option pricing; High frequency data; Realized variance; Stochastic volatility; Jump diffusion (search for similar items in EconPapers)
JEL-codes: C52 C58 G13 G17 (search for similar items in EconPapers)
Date: 2015
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (6)

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Working Paper: Are classical option pricing models consistent with observed option second-order moments? Evidence from high-frequency data (2013)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jbfina:v:61:y:2015:i:c:p:46-63

DOI: 10.1016/j.jbankfin.2015.08.018

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