Volatility Uncertainty and the Puzzle of VIX Futures Contango *

Authors

Gurdip Bakshi, Temple University-Fox School of BusinessFollow
John Crosby, University of Maryland - Robert H. Smith School of BusinessFollow
Xiaohui Gao, Temple University-Fox School of BusinessFollow
Jinming Xue, Southern Methodist University (SMU) - Finance DepartmentFollow

Publication Date

9-25-2021

Abstract

VIX futures, a hedging instrument, are puzzlingly in contango during normal markets yet shift to backwardation in disruptions-mirroring contango in the S&P 500, an investment vehicle, rather than behaving oppositely. We provide a model-free explanation grounded in the Laplace-transform order of volatility uncertainty. Short-dated volatility "pockets," corresponding to the VIX underlier, are safer-less heavytailed-than nonoverlapping longer-dated ones, as exponentially decreasing functions of volatility have higher expectations under the pricing measure. Embedding this theory within models featuring (i) rough volatility and (ii) time-varying disasters with jumps in price and variance, we link intertemporal risk perceptions to volatility-market patterns.

Document Type

Article

Keywords

VIX contango, volatility pockets, Laplace transform order, intertemporal risk perceptions

Disciplines

Finance

DOI

10.2139/ssrn.3930703

Source

SMU Cox: Finance (Topic)

Language

English