Download or read book The Fear and Exuberance from Implied Volatility of S&P 100 Index Options written by Cheekiat Low and published by . This book was released on 2000 with total page 31 pages. Available in PDF, EPUB and Kindle. Book excerpt: This paper studies the relationship between option traders' risk perception, as proxied by the implied Market Volatility Index (VIX) of the Chicago Board Options Exchange, and contemporaneous market conditions. The key discovery is that this metric of risk perception tends to increase when downside volatility increases more than upside volatility. The risk-return relationship is asymmetric and nonlinear, best described as a reclined S-curve. Extreme price decreases correlate strongly with rapid upward spikes in risk while extreme price increases correlate with relatively subdued falls in risk. This asymmetry points to another form of loss aversion. By further conditioning the downside and upside partitions of contemporaneous returns on the signs of lagged returns, it is revealed that consecutively falling prices are associated with increasing fear of risk while consecutive price run-ups have relatively weaker effect on reducing risk. Financial leverage (but not operating leverage) is found to be a plausible explanation for the general negative risk-return relationship. Moreover, high financial leverage helps to sharpen the curvature of the reclined S-curve. These results suggest that the true financial risk does not come in simple symmetry as conveniently assumed in mainstream financial research. This paper's primary contribution is to raise awareness of the semidimensional nature of risk.