What is the expected return on the market

By Ian Martin. 2016

368 citations recorded by the source corpus.

I derive a lower bound on the equity premium in terms of a volatility index, SVIX, that can be calculated from index option prices. The bound implies that the equity premium is extremely volatile and that it rose above 20% at the height of the crisis in 2008. The time-series average of the lower bound is about 5%, suggesting that the bound may be approximately tight. I run predictive regressions and find that this hypothesis is not rejected by the data, so I use the SVIX index as a proxy for the equity premium and argue that the high equity premia available at times of stress largely reflect high expected returns over the very short run. I also provide a measure of the probability of a market crash, and introduce simple variance swaps, tradable contracts based on SVIX that are robust alternatives to variance swaps.

Subfields: Economics and Econometrics, Finance

View Paper: https://www.semanticscholar.org/paper/e5ac00274b04e879538614dac2cbdb1b321e78ed

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Citations in the corpus

Flights to Safety (2014, positive): “Our findings are therefore in line with Martin (2017), who finds the (option-implied) market risk premium to be very volatile and above 20% in periods of market stress, and with similar results in Ait-Sahalia et al. (2018), our findings suggest that not all equity stress periods are created equal:…”
Non-monetary news in central bank communication (2018, methodology): “Matheson and Stavrev (2014) propose to use a bi-variate VAR with sign restrictions on the structural covariance matrix of shocks.”
What Is the Expected Return on a Stock? (2019, positive): “Our results are therefore consistently stronger, in a statistical sense, than those of Martin (2017).”
Disaster Resilience and Asset Prices (2020, positive): “In our analysis, we follow the approaches suggested by Martin (2017) and Martin and Wagner (2019). Martin (2017) argues that the risk-neutral variance of the market provides a lower bound on the equity premium. He also argues that, empirically, the lower bound is approximately tight, so that the ris”
What Explains the Covid-19 Stock Market? (2020, positive): “…+ εt, (3) where Yt ≡ (eyt, rft, pyt, rpt,∆yt)′ is an observation vector that contains observations on the corporate earnings share of output, the risk-free rate, the price-output ratio, a measure of the equity risk premium implied by options data due to Martin (2017), and corporate output growth.”
Election uncertainty, economic policy uncertainty and financial market uncertainty: A prediction market analysis (2020, background): “…implied and realized volatility is often interpreted as a premium for bearing the volatility risk of an option position, linking the measure to risk aversion (Bekaert et al., 2013; Bekaert and Engstrom, 2017; Bekaert et al., 2019; Longstaff et al., 2011; Martin, 2017; Prokopczuk and Simen, 2014).”
The Time Variation in Risk Appetite and Uncertainty (2019, positive): “Work by Bekaert et al. (2010) and Martin (2017) also suggests the existence of more variable risk aversion in ﬁ nancial markets, imperfectly correlated with fundamentals.”