Predictable Dynamics in Implied Volatility Surfaces from OTC Currency Options

46 Pages Posted: 11 Oct 2009 Last revised: 19 Apr 2010

See all articles by George Chalamandaris

George Chalamandaris

Athens University of Economics and Business - Department of Accounting and Finance

Andrianos E. Tsekrekos

Athens University of Economics and Business - Department of Accounting and Finance

Date Written: August 1, 2009

Abstract

Recent empirical studies report predictable dynamics in the volatility surfaces implied by observed index option prices, as prescribed by general equilibrium models. Using an extensive data set from the over-the-counter options market, we document similar predictability in the factors that capture the daily variation of surfaces implied by options on 25 different foreign exchange rates. We proceed to demonstrate that simple vector autoregressive specifications for the factors can help produce accurate out-of-sample forecasts of the systematic component of the surface at short horizons. Profitable delta-hedged positions can be set up based on these forecasts; however profits disappear when typical transaction costs are taken into account and when trading rules on wide segments of the surface are sought.

Keywords: Implied volatility surfaces, static Factor model, Forecasting, Trading strategies

JEL Classification: C32, C53, G13, F37

Suggested Citation

Chalamandaris, George and Tsekrekos, Andrianos E., Predictable Dynamics in Implied Volatility Surfaces from OTC Currency Options (August 1, 2009). Journal of Banking and Finance, Vol. 34, No. 6, 2010, Available at SSRN: https://ssrn.com/abstract=1486715

George Chalamandaris (Contact Author)

Athens University of Economics and Business - Department of Accounting and Finance ( email )

76 Patission Street
GR-104 34 Athens
Greece

Andrianos E. Tsekrekos

Athens University of Economics and Business - Department of Accounting and Finance ( email )

76 Patission Street
GR-104 34 Athens
Greece

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
191
Abstract Views
1,004
rank
190,333
PlumX Metrics