Implied Learning Paths from Option Prices

Massimo Guidolin and Allan Timmermann

No 447, Econometric Society World Congress 2000 Contributed Papers from Econometric Society

Abstract: This paper shows that the best known empirical biases of the Black and Scholes (1973) option pricing formula can be explained by investors learning the parameters of the underlying fundamental process. In the context of an equilibrium model where dividend news evolve on a binomial lattice we derive closed-form pricing formulas for European options under Bayesian learning. Learning effects are found to be able to generate asymmetric skews in the implied volatility surface and systematic patterns in the term structure of option prices. We also infer from S\&P 500 index option prices the parameters characterizing the maintained recursive learning process. This allows us to estimate the dynamics of learning and to provide an empirical test for the model.

Date: 2000-08-01
References: Add references at CitEc
Citations:

Downloads: (external link)
http://fmwww.bc.edu/RePEc/es2000/0447.pdf main text (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:ecm:wc2000:0447

Access Statistics for this paper

More papers in Econometric Society World Congress 2000 Contributed Papers from Econometric Society Contact information at EDIRC.
Bibliographic data for series maintained by Christopher F. Baum ().