The Information Content of the Implied Volatility in OTC Individual Stock Options Market

Abstract

This paper investigates the information content of implied volatilities inferred from individual stock options quoted over-the-counter (OTC). First, we examine whether the implied volatility has better explanatory power than historical volatility for forecasting future realized volatility of the underlying stock return. Next, we analyze the properties of volatility spreads, the difference between implied volatilities and realized volatilities. Using near-the-money options for 10 firms over the sample period from April 2005 to April 2010, we first demonstrate that the implied volatilities for most firms don’t have additional information beyond what are already contained in historical volatilities. However, the implied volatilities with some specific remaining maturities for two firms dominate historical volatilities in explaining the future realized volatilities. Second, we find that during the period before global financial crisis, the implied volatilities are systematically lower than the future realized volatilities whereas this reversal disappears after the year 2008. This finding suggests that there’s a possibility of the risk loving behavior of the investors in OTC individual stock options market during the pre-global crisis period. Finally, through the comparative analysis of the KOSPI200 index options quoted OTC over the same sample period, we conclude that the OTC individual stock options market has distinctive characteristics like the KRW/USD OTC currency options market.

Citation

Park, Y.J. (2012), "The Information Content of the Implied Volatility in OTC Individual Stock Options Market", Journal of Derivatives and Quantitative Studies: 선물연구, Vol. 20 No. 2, pp. 195-235. https://doi.org/10.1108/JDQS-02-2012-B0003