Quadratic Variance Swap Models

Damir Filipović, Elise Gourier and Loriano Mancini
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Damir Filipović: Ecole Polytechnique Fédérale de Lausanne; Swiss Finance Institute
Elise Gourier: ESSEC Business School
Loriano Mancini: USI Lugano - Institute of Finance; Swiss Finance Institute

No 13-06, Swiss Finance Institute Research Paper Series from Swiss Finance Institute

Abstract: We introduce a novel class of term structure models for variance swaps. The multivariate state process is characterized by a quadratic diffusion function. The variance swap curve is quadratic in the state variable and available in closed form, greatly facilitating empirical analysis. Various goodness-of-fit tests show that quadratic models fit variance swaps on the S&P 500 remarkably well, and outperform affine models. We solve a dynamic optimal portfolio problem in variance swaps, index option, stock index and bond. An empirical analysis uncovers robust features of the optimal investment strategy.

Keywords: stochastic volatility; variance swap; quadratic term structure; quadratic jump-diffusion; dynamic optimal portfolio (search for similar items in EconPapers)
JEL-codes: C51 G13 (search for similar items in EconPapers)
Pages: 77 pages
Date: 2013-03
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Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:chf:rpseri:rp1306

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