Post by Sapphire Capital on Feb 11, 2009 21:37:00 GMT 4
Option-Implied Risk Attitude Under Rank Dependent Utility
Maik Dierkes
University of Muenster - Finance Center Muenster
January 9, 2009
Abstract:
We employ rank dependent utility, one of the most important extensions of expected utility, to infer a representative investor's risk preferences from option cross sections and the historical time series of the underlying. This preference calculus is able to explain so far unsolved puzzles like risk aversion smiles, violations of second order stochastic dominance in options markets and di fferences in risk neutral distributions depending on whether they are estimated from option cross sections or from the underlying's time series via Girsanov's theorem. Our results are in line with findings of psychologists and behavioral economists, the probability weighting function is found to be inverse-S shaped.
papers.ssrn.com/sol3/Delivery.cfm/SSRN_ID1326310_code762991.pdf?abstractid=1322311&mirid=1
Maik Dierkes
University of Muenster - Finance Center Muenster
January 9, 2009
Abstract:
We employ rank dependent utility, one of the most important extensions of expected utility, to infer a representative investor's risk preferences from option cross sections and the historical time series of the underlying. This preference calculus is able to explain so far unsolved puzzles like risk aversion smiles, violations of second order stochastic dominance in options markets and di fferences in risk neutral distributions depending on whether they are estimated from option cross sections or from the underlying's time series via Girsanov's theorem. Our results are in line with findings of psychologists and behavioral economists, the probability weighting function is found to be inverse-S shaped.
papers.ssrn.com/sol3/Delivery.cfm/SSRN_ID1326310_code762991.pdf?abstractid=1322311&mirid=1