A Behavioral Perspective on Tail Risk Hedging

While there is no dearth of idealized analytical approaches to option pricing, no discussion of tail risk hedging can be complete without a discussion of investor behavior and how that behavior influences tail hedging. A behavioral approach necessarily takes us away from the idealized world of dynamically and continuously hedging of option positions, arbitrage, and fundamentally efficient markets that form the foundation of modern option pricing. Nonetheless, the significant structural changes in the behavior of market participants (both for intrinsic risk-management reasons and for extrinsic regulatory reasons) toward tail risk mitigation make it important for option participants to understand ...

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