| By: |
Jean-Marie Dufour;
René Garcia;
Abderrahim Taamouti |
| Abstract: |
In this paper, we provide evidence on two alternative mechanisms of
interaction between returns and volatilities: the leverage effect and the
volatility feedback effect. We stress the importance of distinguishing between
realized volatility and implied volatility, and find that implied volatilities
are essential for assessing the volatility feedback effect. The leverage
hypothesis asserts that return shocks lead to changes in conditional
volatility, while the volatility feedback effect theory assumes that return
shocks can be caused by changes in conditional volatility through a
time-varying risk premium. On observing that a central difference between
these alternative explanations lies in the direction of causality, we consider
vector autoregressive models of returns and realized volatility and we measure
these effects along with the time lags involved through short-run and long-run
causality measures proposed in Dufour and Taamouti (2010), as opposed to
simple correlations. We analyze 5-minute observations on S&P 500 Index futures
contracts, the associated realized volatilities (before and after filtering
jumps through the bispectrum) and implied volatilities. Using only returns and
realized volatility, we find a strong dynamic leverage effect over the first
three days. The volatility feedback effect appears to be negligible at all
horizons. By contrast, when implied volatility is considered, a volatility
feedback becomes apparent, whereas the leverage effect is almost the same.
These results can be explained by the fact that volatility feedback effect
works through implied volatility which contains important information on
future volatility, through its nonlinear relation with option prices which are
themselves forward-looking. In addition, we study the dynamic impact of news
on returns and volatility. First, to detect possible dynamic asymmetry, we
separate good from bad return news and find a much stronger impact of bad
return news (as opposed to good return news) on volatility. Second, we
introduce a concept of news based on the difference between implied and
realized volatilities (the variance risk premium) and we find that a positive
variance risk premium (an anticipated increase in variance) has more impact on
returns than a negative variance risk premium. <P> |
| Keywords: |
Volatility asymmetry, leverage effect, volatility feedback effect, risk premium, variance risk premium, multi-horizon causality, causality measure, high-frequency data, realized volatility, bipower variation, implied volatility., |
| JEL: |
G1 G12 G14 C1 C12 C15 C32 C51 C53 |
| Date: |
2011–02–01 |
| URL: |
http://d.repec.org/n?u=RePEc:cir:cirwor:2011s-27&r=mst |