Valuation of housing index derivatives
Melanie Cao and
Journal of Futures Markets, 2010, vol. 30, issue 7, 660-688
This study analyzes the valuation of housing index derivatives traded on the Chicago Mercantile Exchange (CME). Specifically, to circumvent the nontradability of housing indices, we propose and implement an equilibrium valuation framework. Assuming a mean‐reverting aggregate dividend process and a utility function characterized by constant relative risk aversion, we show that the value of a housing index derivative depends only on parameters characterizing the underlying housing index, the endogenized interest rate and their correlation. We also analytically and numerically examine risk premiums for the CME futures and options and obtain three important findings. First, risk premiums are significant for all contracts with maturities longer than one year. Second, the expected growth rate of the underlying index is the key determinant for risk premiums. Third, risk premiums can be positive or negative, depending on whether the expected growth rate of the underlying index is higher or lower than the risk‐free yield‐to‐maturity. © 2009 Wiley Periodicals, Inc. Jrl Fut Mark 30:660–688, 2010
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Persistent link: https://EconPapers.repec.org/RePEc:wly:jfutmk:v:30:y:2010:i:7:p:660-688
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