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Keywords:variance swaps 

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Equity Volatility Term Premia

This paper estimates the term-structure of volatility risk premia for the stock market. Realized variance term premia are increasing in systematic risk and predict variance swap returns. Implied volatility term premia are decreasing in risk initially, but then increase at a lag, predicting VIX futures returns. By modeling the logarithm of realized variance, the paper derives a closed-form relationship between the prices of variance swaps and VIX futures. The model provides accurate pricing and highlights periods of dislocation between the index options and VIX futures markets. Term premia ...
Staff Reports , Paper 867

Discussion Paper
The Law of One Price in Equity Volatility Markets

Can option traders take a square root? Surprisingly, maybe not. This post shows that VIX futures prices exhibit significant deviations from their option-implied upper bounds—the square root of variance swap forward rates—thus violating the law of one price, a fundamental concept in economics and finance. The deviations widen during periods of market stress and predict the returns of VIX futures. Just as the stock market struggles with multiplication, the equity volatility market appears unable to take a square root at times.
Liberty Street Economics , Paper 20210201

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The Law of One Price in Equity Volatility Markets

This paper documents law of one price violations in equity volatility markets. While tightly linked by no-arbitrage restrictions, the prices of VIX futures exhibit significant deviations relative to their option-implied upper bounds. Static arbitrage opportunities occur when the prices of VIX futures violate their bounds. The deviations widen during periods of market stress and predict the returns of VIX futures. A relative value trading strategy based on the deviation measure earns a large Sharpe ratio and economically significant alpha-to-margin. There is evidence that systematic risk and ...
Staff Reports , Paper 953

Report
Global variance term premia and intermediary risk appetite

Sellers of variance swaps earn time-varying risk premia for their exposure to realized variance, the level of variance swap rates, and the slope of the variance swap curve. To measure risk premia, we estimate a dynamic term structure model that decomposes variance swap rates into expected variances and term premia. Empirically, we document a strong global factor structure in variance term premia across the U.S., U.K., Europe, and Japan. We further show that variance term premia are negatively correlated with the risk appetite of hedge funds, broker-dealers, and mutual funds. Our results ...
Staff Reports , Paper 789

Discussion Paper
Equity Volatility Term Premia

Investors can buy volatility hedges on the stock market using variance swaps or VIX futures. One motivation for hedging volatility is its negative relationship with the stock market. When volatility increases, stock returns tend to decline contemporaneously, a result known as the leverage effect. In this post, we measure the cost of volatility hedging by decomposing the prices of variance swaps and VIX futures into volatility forecasts and estimates of expected returns (“equity volatility term premia”) from January 1996 to June 2020.
Liberty Street Economics , Paper 20210203

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