OPTIONS AND THE VOLATILITY RISK PREMIUM
Jared Woodard
One of the most exciting areas of research in finance over the last decade has been the study of how the volatility implied by option prices relates to the volatility exhibited by their underlying assets. In what follows, I will explain the concept of the volatility risk premium, present evidence for the presence of such a premium in options on every major asset class, and discuss techniques for estimating, predicting, and trading the volatility risk premium.
1. What Is the Volatility Risk Premium?
The volatility risk premium is the cost that an investor in some asset pays to reduce her exposure to the volatility of the future returns of that asset, expressed as the difference between the ...
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