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Volatility indices and implied uncertainty measures of European government bond futures

Working papers
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Download PDF: Working Paper 43


This paper shows how to use options to measure forward-looking market uncertainty in European government bond futures.

Authors: Jaroslav Baran (ESM) and Jan Voříšek (independent researcher)



Implied volatility and other forward-looking measures of option-implied uncertainty help investors carefully evaluate market sentiment and expectations. We construct several measures of implied uncertainty in European government bond futures. In the first part, we create new volatility indices, which reflect market pricing of subsequently realised volatility of underlying bond futures. We express volatility indices in both price and basis points, the latter being more intuitive to interpret; we document their empirical properties, and discuss their possible applications. In the second part, we fit the volatility smile using the SABR model, and recover option-implied probability distribution of possible outcomes of bond futures prices. We analyse shapes of the implied distribution, track its quantiles over time, calculate its skewness and kurtosis, and infer probabilities of a given upside or downside move in the price of bond futures or in the yield of their underlying CTD bond. We illustrate these complementary measures throughout the note using Bund futures as an example, and show the results for Schatz, Bobl, OAT, and BTP futures in the annex. Such forward-looking measures help market participants quantify the degree of future market uncertainty and thoroughly assess what risks are priced in.


Disclaimer: This Working Paper should not be reported as representing the views of the ESM. The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the ESM or ESM policy. No responsibility or liability is accepted by the ESM in relation to the accuracy or completeness of the information, including any data sets, presented in this Working Paper.

Keywords: bond futures, market expectations, options, probability density function, SABR, VIX, volatility index.

JEL codes: C13, G13, G14, G17

Source: European Stability Mechanism | Working Paper Series | Volume 2020 | No 43 | May 2020 | 45 Pages

Copyright © European Stability Mechanism, 2020 | All rights reserved. Any reproduction, publication and reprint in the form of a different publication, whether printed or produced electronically, in whole or in part, is permitted only with the explicit written authorisation of the European Stability Mechanism.