The stock implied volatility and the implied dividend volatility

Enoch Quaye and Radu Tunaru

Journal of Economic Dynamics and Control, 2022, vol. 134, issue C

Abstract: This study compares the information on the implied volatility surface of a stock-index with the corresponding information on the implied volatility surface of the index dividend futures. We outline an optimisation technique for comparing implied volatility estimates based on the Black-Scholes model, Black model and a model-free approach, for stock-index versus dividend-index futures. The implied volatility term-structure of stock-index consistently exceeds that of the dividend index futures thereby confirming the equity volatility puzzle under novel financial data and instruments. However, the magnitude of excess implied volatility reduces as the time-to-maturity increases, suggesting that discrepancies between the two are influenced by investment horizon, and the type of option, call or put. We also show the existence of a profitable trading rule that outperforms a benchmark buy-and-hold strategy. The GDP, dollar euro exchange rate and inflation are strong determinants of the implied volatility difference.

Keywords: Dividend puzzle; Implied volatility models; Implied volatility differences; Index dividend futures option trading; Trading strategies (search for similar items in EconPapers)
JEL-codes: C18 G11 G13 G17 (search for similar items in EconPapers)
Date: 2022
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:dyncon:v:134:y:2022:i:c:s0165188921002116

DOI: 10.1016/j.jedc.2021.104276

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