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1、12PortfolioManagementandInformationfromOver-the-CounterCurrencyOptions∗JORGEBARROSLU´ISABSTRACTThischapterlooksattheinformationalcontentofpricesinthecurrencyoptionmarket.Riskreversals,stranglesandat-the-moneyforwardvolatilitiesderivedfromOTCareused,alongwith
2、dataregardingexchangetradedoptions.Threeempiricalapplicationsoftheliteraturearepresented.ThefirstoneisontheEUR/USD,whereoptionpricesforseveralstrikesareobtainedfromcurrencyoptionspreadpricesandrisk-neutraldensityfunctionsareestimatedusingdifferentmethods.This
3、applicationisfollowedbytheanalysisofimpliedcorrelationsandthecredibilityofthePortugueseexchangeratepolicy,duringthetransitiontotheEMU,andoftheDanishexchangeratepolicyaroundtheEuroreferenduminSeptember2000.Thischapterissupportedbythenecessaryapplicationfiles,p
4、roducedinExcel,toallowthereadertovalidatetheauthorresultsand/orapplytheanalysistoadifferentdataset.12.1INTRODUCTIONPortfolioandriskmanagementarebasedonmodelsusingestimatesforfuturereturns,volatilitiesandcorrelationsbetweenfinancialassets.Consideringtheforward
5、lookingfeaturesofderivativecontracts,optionpriceshavebeenusedintensivelyinordertoextractinformationonexpectationsabouttheunderlyingassetprices.Comparedtoforwardandfuturescontracts,optionpricesprovideanestimatenotonlyfortheexpectedvalueoftheunderlyingassetpri
6、ceatthematuritydateofthecontract,butalsoforthewholedensityfunctionundertheassumptionofriskneutrality(therisk-neutraldensityorRND),basedonthetheoreticalrelationshipdevelopedinBreedenandLitzenberger(1978).ThisinformationisrelevantforValue-at-Risk(VaR)exercises
7、,aswellasstresstests.However,thecompletionoftheseexercisesalsodemandscorrelationestimates,whichcanbeobtainedfromoptionpricesonlyinthecaseofcurrencyoptions.Contrarytointerestratesandstockpriceindexes,currencyoptionsaremoreheavilytradedinover-the-counter(OTC)m
8、arkets.1TheinformationfromOTCmarketsusually∗ThischaptercontainsmaterialincludedinthePhDthesisoftheauthor(Lu´ıs,2001).1AccordingtoBIS(2001),attheendofJune2001,theOTCmarketwasresponsiblefor99.5%of
