The Causal Relationship between the S&P 500 and the VIX Index: Critical Analysis of Financial Market Volatility and Its Predictability (BestMasters)

Florian Auinger highlights the core weaknesses and sources of criticism regarding the VIX Index as an indicator for the future development of financial market volatility. Furthermore, it is proven that there is no statistically significant causal relationship between the VIX and the S & P 500. As a consequence, the forecastability is not given in both directions. Obviously, there must be at least one additional variable that has a strong influence on market volatility such as emotions which, according to financial market experts, are considered to play a more and more important role in investment decisions. Contents Risk and Emotions Financial Market Volatility Behavioural Finance VIX Index Target Groups℗ℓ Researchers and students in the fields of risk management, portfolio management and investment banking Practitioners in these areas The Author Florian Auinger wrote his master thesis at the University of Applied Sciences in Steyr, Upper Austria and is currently working in the fields of mergers & acquisitions Acknowledgements 6 Content 7 List of Acronyms and Abbreviations 9 List of Figures 10 List of Tables 11 List of Equations 11 1 Introduction 12 1.1 Problem Statement 13 1.2 Research Objective 13 1.3 Research Structure 14 2 Methodology 15 2.1 Research Design 15 2.2 Literature Review 16 2.3 Quantitative Research 17 2.3.1 Granger Causality Test Input: 19 2.4 Qualitative Research 25 3 Risk and Emotions 28 4 Financial Market Volatility 30 4.1 Current Trends and Latest News 30 4.2 Definitions, Sources and Measures of Volatility 32 4.3 Volatility Characteristics and Stylized Facts 35 4.4 Predictability of Future Volatility 37 4.5 Volatility Types 37 4.5.1 Implied Volatility 38 4.5.2 Realized Volatility 40 4.5.3 Stochastic Volatility 40 4.5.4 Comparison of Volatility Types 41 5 Behavioural Finance 44 5.1 Efficient Market Hypothesis and Behavioural Finance: A Description 44 5.2 Efficient Market Hypothesis: Critique 45 6 VIX Index 48 6.1 An Introduction to the “Investor Fear Gauge” 48 6.2 Applications and Strategies 52 6.3 Critical Evaluation and Predictive Performance of the VIX 56 6.3.1 Implied Volatility and the Assumption of Constant Volatility 56 6.3.2 Asymmetry of Daily Changes 57 6.3.3 The VIX Index vs. the CSFB Index 58 6.3.4 Performance of a Probabilistic Interpretation 61 6.3.5 VIX Manipulation 62 7 Empirical Results 64 7.1 Quantitative Research 64 7.1.1 Descriptive Analysis 64 7.1.2 Granger Causality Test 68 7.2 Qualitative Research 71 8 Discussion 75 9 Conclusion 78 Appendix 80 Source Code of R Module 92 10 List of References 96 Florian Auinger highlights the core weaknesses and sources of criticism regarding the VIX Index as an indicator for the future development of financial market volatility. Furthermore, it is proven that there is no statistically significant causal relationship between the VIX and the S & P 500. As a consequence, the forecastability is not given in both directions. Obviously, there must be at least one additional variable that has a strong influence on market volatility such as emotions which, according to financial market experts, are considered to play a more and more important role in investment decisions. Contents Risk and Emotions Financial Market Volatility Behavioural Finance VIX Index Target Groups℗l Researchers and students in the fields of risk management, portfolio management and investment banking Practitioners in these areas The Author Florian Auinger wrote his master thesis at the University of Applied Sciences in Steyr, Upper Austria and is currently working in the fields of mergers & acquisitions Front Matter....Pages I-XIII Introduction....Pages 1-3 Methodology....Pages 4-16 Risk and Emotions....Pages 17-18 Financial Market Volatility....Pages 19-32 Behavioural Finance....Pages 33-36 VIX Index....Pages 37-52 Empirical Results....Pages 53-63 Discussion....Pages 64-66 Conclusion....Pages 67-68 Back Matter....Pages 69-91