Volatility and Expected Option Returns

43 Pages Posted: 27 Nov 2015 Last revised: 15 Jul 2017

See all articles by Guanglian Hu

Guanglian Hu

The University of Sydney - Discipline of Finance

Kris Jacobs

University of Houston - C.T. Bauer College of Business

Date Written: June 13, 2017

Abstract

We analyze the relation between expected option returns and the volatility of the underlying securities. The expected return from holding a call (put) option is a decreasing (increasing) function of the volatility of the underlying. These predictions are strongly supported by the data. In the cross-section of equity option returns, returns on call (put) option portfolios decrease (increase) with underlying stock volatility. This finding is not due to cross-sectional variation in expected stock returns. It holds in various option samples with different maturities and moneyness, and it is robust to alternative measures of underlying volatility and different weighting methods.

Keywords: expected option returns, volatility, cross-section of option returns

JEL Classification: G12

Suggested Citation

Hu, Guanglian and Jacobs, Kris, Volatility and Expected Option Returns (June 13, 2017). Available at SSRN: https://ssrn.com/abstract=2695569 or http://dx.doi.org/10.2139/ssrn.2695569

Guanglian Hu (Contact Author)

The University of Sydney - Discipline of Finance ( email )

Room 543 H69 Codrington Building
University of Sydney
Sydney, NSW 2006
Australia

Kris Jacobs

University of Houston - C.T. Bauer College of Business ( email )

Houston, TX 77204-6021
United States

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