A New Predictor of U.S. Real Economic Activity: The S&P 500 Option Implied Risk Aversion

We propose a new predictor of real economic activity (REA), namely the representative investor's implied relative risk aversion (IRRA) extracted from S&P 500 option prices. IRRA exploits the forward-looking information in option prices. It increases as risk averse investors enter the market, leading to a decrease in market risk premium thus predicting a REA improvement. In line with our hypothesis, IRRA predicts U.S. REA even when we control for well-known REA predictors. Results hold over both short and long horizons and regardless of the way we conduct inference. Moreover, IRRA forecasts REA out-of-sample over the 2008-2009 great economic recession peak.

• Publication year

  2019

• Venue

  Management Sciences

• Publication date

  2019-10-01

• Fields of study

  Computer Science, Economics

• Identifiers
  DOI 10.1287/MNSC.2018.3049
• External record

  Open on Semantic Scholar

• Source metadata

  Semantic Scholar

• No claims are published for this paper.

• No concepts are published for this paper.

• The Disutility of Labor

  2020cited by this paper
• Rare Disasters, Credit, and Option Market Puzzles

  2017cited by this paper
• Capital Values and Job Values

  2015influential reference
• The Three-Pass Regression Filter: A New Approach to Forecasting Using Many Predictors

  2015influential reference
• Theory of Rational Option Pricing

  2015influential reference
• The Information Content of Trades: An Analysis of KOSPI 200 Index Derivatives

  2015cited by this paper
• Naiveté, Projection Bias, and Habit Formation in Gym Attendance

  2015cited by this paper
• Economic Dynamics in Discrete Time

  2014influential reference
• Forward-Looking Market Risk Premium

  2014influential reference
• A macroeconomic investigation of funding liquidity and monetary policy shocks in the United States

  2014cited by this paper
• Are There Common Factors in Individual Commodity Futures Returns

  2014influential reference
• A Better Specified Asset Pricing Model to Explain the Cross-section and Time-Series of Commodity Returns∗

  2013cited by this paper
• Predictable Dynamics in Higher-Order Risk-Neutral Moments: Evidence from the S&P 500 Options

  2013cited by this paper
• Time varying risk aversion

  2013cited by this paper
• Improving Portfolio Selection Using Option-Implied Volatility and Skewness

  2013cited by this paper
• Does Indivisible Labor Explain the Difference between Micro and Macro Elasticities? A Meta-Analysis of Extensive Margin Elasticities

  2013cited by this paper
• Measuring Equity Risk with Option-Implied Correlations

  2012cited by this paper
• What Does Futures Market Interest Tell Us about the Macroeconomy and Asset Prices

  2012influential reference
• Forecasting with Option-Implied Information

  2012cited by this paper
• Robust econometric inference for stock return predictability

  2011cited by this paper
• Investment Shocks and Asset Prices

  2011cited by this paper
• Stories of the Twentieth Century for the Twenty-First

  2011cited by this paper
• Market Timing with Option-Implied Distributions: A Forward-Looking Approach

  2011influential reference
• Dislocations in the Won-Dollar Swap Markets During the Crisis of 2007-09

  2011cited by this paper
• Predicting Utility Under Satiation and Habit Formation

  2010cited by this paper
• Improving the Predictability of Real Economic Activity and Asset Returns with Forward Variances Inferred from Option Portfolios

  2010influential reference
• The Baltic Dry Index as a Predictor of Global Stock Returns, Commodity Returns, and Global Economic Activity

  2010cited by this paper
• Long-Run Risk Through Consumption Smoothing

  2010cited by this paper
• Information content of volatility spreads

  2009cited by this paper
• Option-Implied Measures of Equity Risk

  2009cited by this paper
• Variance Risk Premiums

  2009cited by this paper
• The Informational Content of Financial Options for Quantitative Asset Management: A Review

  2009cited by this paper
• Predicting Excess Stock Returns Out of Sample: Can Anything Beat the Historical Average?

  2008cited by this paper
• The Information in Option Volume for Future Stock Prices

  2007cited by this paper
• The Fundamentals of Commodity Futures Returns

  2007cited by this paper
• Real-Time Measurement of Business Conditions

  2007cited by this paper
• Option-implied risk preferences: An extension to wider classes of utility functions

  2006influential reference
• Efficient Tests of Stock Return Predictability

  2006cited by this paper
• A Theory of Volatility Spreads

  2006influential reference
• Is it important to consider the jump component for pricing and hedging short‐term options?

  2005influential reference
• Nominal Rigidities and the Dynamic Effects of a Shock to Monetary Policy

  2005influential reference
• Option-Implied Risk-Neutral Distributions and Risk Aversion

  2004cited by this paper
• The Information of Option Volume for Future Stock Prices

  2004cited by this paper
• Option-Implied Risk Aversion Estimates

  2004influential reference
• Calculating and Using Second Order Accurate Solutions of Discrete Time

  2003cited by this paper
• Forecasting Output and Inflation: The Role of Asset Prices

  2003cited by this paper
• Model-Free Implied Volatility and Its Information Content

  2003cited by this paper
• Macroeconomic Forecasting Using Diffusion Indexes

  2002cited by this paper
• Forecasting Using Principal Components From a Large Number of Predictors

  2002cited by this paper
• Empirical Pricing Kernels

  2002influential reference
• Habit Persistence, Asset Returns, and the Business Cycle

  2001cited by this paper
• Stock Return Characteristics, Skew Laws, and the Differential Pricing of Individual Equity Options

  2001influential reference
• Nonparametric Risk Management and Implied Risk Aversion

  2000influential reference
• Can Book-to-Market, Size, and Momentum Be Risk Factors That Predict Economic Growth?

  2000influential reference
• ANSWERING THE SKEPTICS: YES, STANDARD VOLATILITY MODELS DO PROVIDE ACCURATE FORECASTS*

  1998cited by this paper
• Asset pricing in production economies

  1998cited by this paper
• Recovering Risk Aversion from Option Prices and Realized Returns

  1998cited by this paper
• Option Volume and Stock Prices: Evidence on Where Informed Traders Trade

  1998cited by this paper
• New Techniques to Extract Market Expectations from Financial Instruments

  1997cited by this paper
• Recovering Probability Distributions from Option Prices

  1996cited by this paper
• Multifactor Explanations of Asset Pricing Anomalies

  1996cited by this paper
• Automatic Lag Selection in Covariance Matrix Estimation

  1994cited by this paper
• The term structure as a predictor of real economic activity

  1991cited by this paper
• LARGE SAMPLE PROPERTIES OF GENERALIZED METHOD OF

  1982cited by this paper
• Large Sample Properties of Generalized Method of Moments Estimators

  year unknowncited by this paper

• Does risk aversion predict the future real economy?

  2025cites this paper
• When money talks, ESG falls silent: Evidence from US lobbying and disclosure

  2025cites this paper
• Global Risk Aversion: Driving Force of Future Real Economic Activity

  2024cites this paper
• Trading activity, risk aversion, and risk neutral skewness: Evidence from SSE 50ETF option

  2024cites this paper
• Climate-Triggered Institutional Price Pressure: Does it Affect Firms' Cost of Equity?

  2024cites this paper
• China's business cycle forecasting: a machine learning approach

  2024cites this paper
• Does Dividend Policy Lead the Economy?

  2024cites this paper
• The predictability of skewness risk premium on stock returns: Evidence from Chinese market

  2023cites this paper
• Forecasting Chinese stock market volatility with option-implied risk aversion: Evidence from extended realized EGARCH-MIDAS approach

  2023cites this paper
• Risk Aversion and Real Economic Activity: A Macro-Finance Perspective

  2023cites this paper
• Presidential economic approval rating and the cross-section of stock returns

  2023influential citation
• Dynamic Implied Risk Aversion Term Structure: An Empirical Analysis Based on Shanghai Stock Exchange 50 ETF Option

  2023cites this paper
• Industry variance risk premium, cross‐industry correlation, and expected returns

  2022cites this paper
• The Effects of the Bank of Japan’s ETF Purchases on Risk Premia in the Stock Markets

  2021influential citation
• THE IMPACT OF HETEROGENEOUS UNCONVENTIONAL MONETARY POLICIES ON THE EXPECTATIONS OF MARKET CRASHES

  2021cites this paper
• Bitcoin price forecasting: A perspective of underlying blockchain transactions

  2021cites this paper
• Economic Vulnerability Is State Dependent

  2021cites this paper
• A review of systematic evaluation and improvement in the big data environment

  2020cites this paper
• Implied Risk Aversion Smile

  2020cites this paper
• Risk aversion connectedness in developed and emerging equity markets before and after the COVID-19 pandemic

  2020cites this paper
• The Time Variation in Risk Appetite and Uncertainty

  2019cites this paper
• What do we know about individual equity options?

  2019cites this paper
• The Time Variation in Risk Appetite and Uncertainty Geert Bekaert

  2019cites this paper
• Oil Price Uncertainty and the Macroeconomy

  2019cites this paper
• Capital structure and financial flexibility: Expectations of future shocks

  2019cites this paper
• The pricing kernel puzzle: survey and outlook

  2017cites this paper
• Time-varying risk aversion and international stock returns

  year unknowncites this paper