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T. Bollerslev & V. Todorov, “Tails, Fears and Risk Premia,” (Northwestern University, 11 January 2011).

T. Bollerslev & V. Todorov, “Tails, Fears and Risk Premia,” (Northwestern University, 11 January 2011).

Abstract: We show that the compensation for rare events accounts for a large fraction of the average equity and variance risk premia. Exploiting the special structure of the jump-tails and the pricing thereof we identify and estimate a new Investor Fears index. The index reveals large time-varying compensations for fears of disasters. Our empirical investigations involve new extreme value theory approximations and high-frequency intraday data for estimating the expected jump tails under the statistical probability measure, and short maturity out-of-the money options and new model-free implied variation measures for estimating the corresponding risk neutral expectations.