Inferring Expectations from Option Prices

Luca Eric Bruno Zanoni

Student thesis: Master thesis


This paper uses the `emissions scandalĀ“ which occurred in September 2015 after the Environmental Protection Agency (EPA) issued a report on the 18th on Volkswagen, stating that the firm had fitted some of their diesel engines with emissions test defeating devices. The `emissions scandalĀ“ is used as a case in this paper as an example of how one can infer expectations from option prices, the methodology used to infer the expectations relies upon the implied probability distribution functions of Breeden and Litzenberger (1978) and their application in Hull (2012). Given these formulas and the option data of both Volkswagen and Renault (used as a firm that is comparable to Volkswagen) gathered using the Bloomberg Terminal the implied probability distributions and implied volatilities are computed and graphed. The main points found in the analysis of the implied probability distributions and implied volatilities are; there is no evidence that the price drop was expected by the market. The response of the market came only after the price had dropped on the 21st the expectations of the market where generally uncertain after the price drop and the implied volatility increased significantly. Renault on the other hand had much smaller movements which is to be expected as it is not directly involved, the market also seemed generally more optimistic of both firms futures expecting increases in the prices even after the drop.

EducationsMSc in Advanced Economics and Finance, (Graduate Programme) Final Thesis
Publication date2017
Number of pages90