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Implied Risk Aversion Parameter from Option Prices
Author(s) -
Bartunek Kenneth S.,
Chowdhury Mustafa
Publication year - 1997
Publication title -
financial review
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.621
H-Index - 47
eISSN - 1540-6288
pISSN - 0732-8516
DOI - 10.1111/j.1540-6288.1997.tb00417.x
Subject(s) - economics , martingale (probability theory) , econometrics , risk aversion (psychology) , equity (law) , constant (computer programming) , asset (computer security) , financial economics , mathematics , expected utility hypothesis , statistics , computer science , computer security , political science , law , programming language
This paper estimates the representative investor's coefficient of relative risk aversion using option price data. Estimation is carried out using the method of simulated moments. Employing the following assumptions: a) agents have constant proportional risk averse preferences, b) complete markets exist, and c) asset returns are distributed lognormally, an objective function is constructed within the equivalent martingale measure framework. Unlike the case of equity markets, the implied risk aversion parameter from option prices is quite low and stays between zero and one.