Volatility smile and one-month foreign currency volatility forecasts

Alfred Huah Syn Wong, Richard A. Heaney

Research output: Contribution to journalArticle

3 Citations (Scopus)

Abstract

We find knowledge of the volatility smile implied from foreign exchange options improves foreign exchange volatility forecast accuracy. The literature shows curvature of the smile can be captured by risk-neutral skewness and risk-neutral kurtosis and we find inclusion of these variables in forecast models improves volatility forecast accuracy. Further, delta-neutral hedged portfolio performance highlights the economic significance of incorporating knowledge of the smile in forecast models. Analysis is conducted using options with one month to maturity written on four exchange rate series, GBP/USD, EUR/USD, AUD/USD, and the USD/JPY from 2001 to 2006.

Original languageEnglish
Pages (from-to)286-312
Number of pages27
JournalJournal of Futures Markets
Volume37
Issue number3
Early online dateAug 2016
DOIs
Publication statusPublished - 01 Mar 2017

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