N. Branger, R. Flacke, T.F. Middelhoff: Jumps and the Correlation Risk Premium: Evidence from Equity Options

September 5, 2019

This paper breaks the correlation risk premium down into two components: a premium related to the correlation of continuous stock price movements and a premium for bearing the risk of co-jumps. We propose a novel way to identify both premiums based on dispersion trading strategies that go long an index option portfolio and short a basket of option portfolios on the constituents. The option portfolios are constructed to only load on either diffusive volatility or jump risk.