Expectations Hypothesis of the Term Structure of Implied Volatility: Evidence from Foreign Currency and Stock Index Options

Soku Byoun, Chuck C. Y. Kwok and Hun Y. Park

Journal of Financial Econometrics, 2003, vol. 1, issue 1, 126-151

Abstract: Using a stochastic volatility option pricing model, we show that the implied volatilities of at-the-money options are not necessarily unbiased and that the fixed interval time-series can produce misleading results. Our results do not support the expectations hypothesis: long-term volatilities rise relative to short-term volatilities, but the increases are not matched as predicted by the expectations hypothesis. In addition, an increase in the current long-term volatility relative to the current short-term volatility is followed by a subsequent decline. The results are similar for both foreign currency and the S&P 500 stock index options. , .

Date: 2003
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