Model Specification and Risk Premia: Evidence from Futures Options





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    • Broadie and Johannes are affiliated with the Graduate School of Business, Columbia University. Chernov is affiliated with Graduate School of Business, Columbia University and London Business School. We thank seminar participants at Columbia, Connecticut, Northwestern University, London School of Economics, London Business School, and the Western Finance Association meetings for helpful comments. David Bates, Gurdip Bakshi, Chris Jones provided especially helpful comments. We are very grateful to the anonymous referee whose comments resulted in significant improvements in the paper. We thank Tony Baer for excellent research assistance. This work was partially supported by NSF Grant #DMS-0410234.


This paper examines model specification issues and estimates diffusive and jump risk premia using S&P futures option prices from 1987 to 2003. We first develop a time series test to detect the presence of jumps in volatility, and find strong evidence in support of their presence. Next, using the cross section of option prices, we find strong evidence for jumps in prices and modest evidence for jumps in volatility based on model fit. The evidence points toward economically and statistically significant jump risk premia, which are important for understanding option returns.