Department of Finance and Decision Sciences
Cross-section stock return and implied covariance between jump and diffusive volatility
© 2015 John Wiley & Sons, Ltd. I examine the information content of option-implied covariance between jumps and diffusive risk in the cross-sectional variation in future returns. This paper documents that the difference between realized volatility and implied covariance (RV-ICov) can predict future returns. The results show a significant and negative association of expected return and realized volatility-implied covariance spread in both the portfolio level analysis and cross-sectional regression study. A trading strategy of buying a portfolio with the lowest RV-ICov quintile portfolio and selling with the highest one generates positive and significant returns. This RV-Cov anomaly is robust to controlling for size, book-to-market value, liquidity and systematic risk proportion.
cross-sectional stock return, implied volatility, option-implied covariance
Source Publication Title
Journal of Forecasting
Link to Publisher's Edition
Ze-To, Samuel Y.M.. "Cross-section stock return and implied covariance between jump and diffusive volatility." Journal of Forecasting 34.5 (2015): 379-390.