Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/70565 
Year of Publication: 
2010
Series/Report no.: 
Working Paper No. 2010-10
Publisher: 
Federal Reserve Bank of Chicago, Chicago, IL
Abstract: 
The 1987 market crash was associated with a dramatic and permanent steepening of the implied volatility curve for equity index options, despite minimal changes in aggregate consumption. We explain these events within a general equilibrium framework in which expected endowment growth and economic uncertainty are subject to rare jumps. The arrival of a jump triggers the updating of agents' beliefs about the likelihood of future jumps, which produces a market crash and a permanent shift in option prices. Consumption and dividends remain smooth, and the model is consistent with salient features of individual stock options, equity returns, and interest rates.
Subjects: 
Volatility Smile
Volatility Smirk
Implied Volatility
Option Pricing
Portfolio Insurance
Market Risk
JEL: 
G12
G13
Document Type: 
Working Paper

Files in This Item:
File
Size
421.31 kB





Items in EconStor are protected by copyright, with all rights reserved, unless otherwise indicated.