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The Zero Lower Bound and Economic Determinants of the Volatility Surface in the Interest Cap Markets
Author(s) -
Kim MyeongHyeon,
Kim Changki,
Hwang Injun
Publication year - 2017
Publication title -
journal of futures markets
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.88
H-Index - 55
eISSN - 1096-9934
pISSN - 0270-7314
DOI - 10.1002/fut.21829
Subject(s) - economics , implied volatility , volatility (finance) , volatility smile , unemployment , econometrics , volatility swap , sabr volatility model , forward volatility , zero lower bound , financial economics , monetary economics , stochastic volatility , interest rate , macroeconomics
Abstract We address an important yet unanswered question: what would be the economic determinants of the implied volatility during the zero lower bound periods? To answer this question, we examine time variations of the cap market implied volatility and investigate economic determinants on slopes and curvatures of the implied volatility curves. We find that unexpected unemployment and inflation shocks play an important role in explaining implied volatility curves for different maturities. We associate negative jumps in the volatility dynamics (Jarrow, Li, & Zhao, 2007) with two unexpected macroeconomic shocks. Our results provide an important implication for practitioners who prepare future exit strategies. © 2016 Wiley Periodicals, Inc. Jrl Fut Mark 37:578–598, 2017