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An Investigation of Pricing Models for Live Cattle and Feeder Cattle Options

Scott Irwin, Robert A. Pelly and Carl R. Zulauf

No 232393, Staff Papers from Virginia Polytechnic Institute and State University, Department of Agricultural and Applied Economics

Abstract: This study investigated the performance of Black's European model and Barone-Adesi and Whaley ' s American model in pricing live cattle and feeder cattle futures options. One historical and three implied volatility estimators were employed. The live cattle sample period was October 31 , 1984 through September 30, 1988. The feeder cattle sample period was January 4, 1988 through September 30, 1988. One observation per day was collected for all put and call contracts and all strike prices. Contemporaneous futures prices were collected to match the put and call observation~ Black ' s European model was as accurate in predicting premiums as Barone-Adesi and Whaley ' s American model across all volatility estimates and opt ion contracts. Implied volatility estimates generated substantially more accurate forecasts of actual option premia than historical volatility. Small differences were found in the predictive ability among the three implied volatility estimates . The significance and signs of the coefficients and explanatory power of the bias regressions were generally consistent across both option pricing models , suggesting that little difference in biases existed between the American and European model. Generally, fewer coefficients were significant in the implied volatility equations compared to the historical volatility equations. In addition, the magnitude of bias associated with variables in the implied volatility equations was substantially less than that of variables in historical volatility equations. Finally, it was found that none of the variables input into the option pricing models (time-to-maturity , moneyness , volatility, and the riskless interest rate) displayed consistent, significant coefficients across markets and option type.

Keywords: Demand and Price Analysis; Livestock Production/Industries (search for similar items in EconPapers)
Pages: 46
Date: 1989-09
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DOI: 10.22004/ag.econ.232393

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