The surface of implied firm’s asset volatility

Lidija Lovreta and Florina Silaghi

Journal of Banking & Finance, 2020, vol. 112, issue C

Abstract: This paper analyzes the surface of CDS implied firm’s asset volatility at the aggregate market level, using a sample of European investment-grade firms during the 2007–2014 period. The term structure of asset implied volatilities is backed-out from the term structure of CDS spreads, while the moneyness dimension is proxied by the ratio of the default barrier to asset value. We find both a downward sloping term structure and a negative skew. Principal component analysis on the entire volatility surface shows that the first four components interpreted as a level, a term structure, a skew and a moneyness-related curvature mode capture 86% of the daily variation in asset implied volatility. We also find that the term structure slope is related to market and funding illiquidity, investors’ risk aversion, informational frictions, demand/supply factors and momentum.

Keywords: Firm’s asset implied volatility; Volatility surface; CDS spreads (search for similar items in EconPapers)
JEL-codes: G12 G13 G32 (search for similar items in EconPapers)
Date: 2020
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jbfina:v:112:y:2020:i:c:s0378426617302789

DOI: 10.1016/j.jbankfin.2017.11.008

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