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At-the-money options trade at the lowest implied volatility, while options with exercise prices far from the current price trade at higher implied volatilities.
Both using historical actual price movements or option implied volatilities, volatility seems to be about across exercise prices.
We therefore construct the NZVIX by combining implied volatilities series of the existing four stock options, which are then used as a proxy for the implied volatility index of the NZX 15.
Firstly, because implied volatilities are considered to be forward-looking measures of market volatility (Fleming et al.
Nielsen, "Continuous-Time Models, Realized Volatilities, and Testable Distributional Implications for Daily Stock Returns," forthcoming as an NBER Working Paper.
Zhou, "Dynamic Estimation of Volatility Risk Premia and Investor Risk Aversion from Option-Implied and Realized Volatilities," forthcoming as an NBER Working Paper.
Turvey, 1990, "Alternative Estimates of Weighted Implied Volatilities from Soybean and Live Cattle Options", Journal of Futures Markets, 10:353-366
Changes in volatilities are highly negatively correlated with changes in levels in many asset markets.
According to Cristophe Lepitre, of ADI Alternative Investments, "Some possible applications of quality European implied volatilities include the valuation of convertible bonds and variance swaps.
Forecasting Stock-Return Variance: Toward an Understanding of Stochastic Implied Volatilities
S+GARCH is the first commercially available GARCH (generalized autoregressive conditional heteroskedasticity) tool that is multivariate as well as univariate, that is, it can model and predict the volatilities and correlations of two or more financial instruments (or time series) at a time, and the only one that works with S-PLUS, the data analysis tool of choice of leading quants worldwide.
The estimates of market volatilities and correlations provided daily through RiskMetrics(TM) are essential building blocks for internal risk measurement models.