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Inferring Term Rates from SOFR Futures Prices
The Alternative Reference Rate Committee, a group of private-sector market participants convened by the Federal Reserve, has recommended that markets transition to the use of the Secured Overnight Financing Rate (SOFR) in financial contracts that currently reference US dollar LIBOR. This paper examines the feasibility of using SOFR futures prices to construct forward-looking term reference rates that are conceptually similar to the term LIBOR rates commonly used in loan contracts. We show that futures-implied term SOFR rates have closely tracked federal funds OIS rates over the eight months ...
An Empirical Analysis of Futures Margin Changes: Determinants and Policy Implications
Margin regulation raises two policy concerns. First, an alignment of margins to volatility can amplify procyclicality, leading to a build-up of excess leverage in good times and a forced deleverage in bad times. Second, competition among central counterparties (CCPs) can result in lower margin levels in order to attract more trading volume, which is referred to as a "race to the bottom." Motivated by these issues, we empirically analyze the determinants of margin changes by using a data set of various futures margins from Chicago Mercantile Exchange (CME) Group. We first find that CME ...
The Effects of Asymmetric Volatility and Jumps on the Pricing of VIX Derivatives
This paper proposes a new collection of affine jump-diffusion models for the valuation of VIX derivatives. The models have two distinctive features. First, we allow for a positive correlation between changes in the VIX and in its stochastic volatility to accommodate asymmetric volatility. Second, upward and downward jumps in the VIX are separately modeled to accommodate the possibility that investors react differently to good and bad surprises. Using the VIX futures and options data from July 2006 through January 2013, we find conclusive evidence for the benefits of including both asymmetric ...
Variance Disparity and Market Frictions
This paper introduces a new model-free approach to measuring the expectation of market variance using VIX derivatives. This approach shows that VIX derivatives carry different information about future variance than S&P 500 (SPX) options, especially during the 2008 financial crisis. I find that the segmentation is associated with frictions such as funding illiquidity, market illiquidity, and asymmetric information. When they are segmented, VIX derivatives contribute more to the variance discovery process than SPX options. These findings imply that VIX derivatives would offer a better estimate ...
Information in Yield Spread Trades
Using positions data on bond futures, I document that speculators' spread trades contain private information about future economic activities and asset prices. Strong steepening trades are associated with negative payroll surprises in subsequent months and can predict asset markets' reaction to future payroll releases, suggesting that speculators hold superior information about future payrolls. Steepening trades can also predict the rise of stock prices within a few hours before subsequent FOMC announcements, implying that the pre-FOMC stock drift is driven by informed speculation. Overall, ...
Volatility of volatility and tail risk premiums
This paper reports on tail risk premiums in two tail risk hedging strategies: the S&P 500 puts and the VIX calls. As a new measure of tail risk, we suggest using a model-free, risk-neutral measure of the volatility of volatility implied by a cross section of the VIX options, which we call the VVIX index. The tail risk measured by the VVIX index has forecasting power for future tail risk hedge returns. Specifically, consistent with the literature on rare disasters, an increase in the VVIX index raises the current prices of tail risk hedges and thus lowers their subsequent returns over the next ...
Indicative Forward-Looking SOFR Term Rates
This note presents indicative forward-looking term rates derived from end-of-day SOFR futures prices. The accompanying data file also includes compound averages of daily SOFR rates.