Recovering risk-neutral densities from exchange rate options: Evidence from Lira-Dollar options

Halil Aydin, Ahmet Değerli̇ and Pınar Özbay Özlü
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Ahmet Değerli̇: Merkez Bankası

Iktisat Isletme ve Finans, 2010, vol. 25, issue 291, 9-26

Abstract: This paper uses over-the-counter currency options data to investigate market expectations on Turkish Lira-U.S. Dollar exchange rate. We extract option implied density functions to examine the evolution of market sentiment over the possible values of future exchange rates. Uncertainty is well measured by option-implied probabilities. Estimated densities for selected days point out an increase in uncertainty in foreign exchange market during financial turbulence periods. We make inferences about the effectiveness of policy measures and see how the market perception changed throughout the crisis. We uncover the effectiveness of policy measures by observing shrinking densities and confidence bands.

Keywords: Options; Risk neutral density; Market expectations. (search for similar items in EconPapers)
JEL-codes: F31 G13 G19 (search for similar items in EconPapers)
Date: 2010
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Citations: View citations in EconPapers (1)

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