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The Relation between Physical and Risk‐neutral Cumulants
Author(s) -
Zhao Huimin,
Zhang Jin E.,
Chang Eric C.
Publication year - 2013
Publication title -
international review of finance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.489
H-Index - 18
eISSN - 1468-2443
pISSN - 1369-412X
DOI - 10.1111/irfi.12013
Subject(s) - kurtosis , skewness , cumulant , econometrics , volatility (finance) , variance swap , economics , variance risk premium , swap (finance) , financial economics , portfolio , actuarial science , hedge , volatility swap , stochastic volatility , mathematics , statistics , volatility risk premium , implied volatility , finance , ecology , biology
Variance swaps are natural instruments for investors taking directional bets on volatility and are often used for portfolio protection. The empirical observation on skewness research suggests that derivative professionals may also desire to hedge beyond volatility risk and there exists the need to hedge higher‐moment market risks, such as skewness and kurtosis risks. We study two derivative contracts – skewness swap and kurtosis swap – which trade the forward realized third and fourth cumulants. Using S & P 500 index options data from 1996 to 2005, we document the returns of these swap contracts, i.e., skewness risk premium and kurtosis risk premium. We find that the both skewness and kurtosis risk premiums are significantly negative.