Template-Type: ReDIF-Paper 1.0
Series: Tinbergen Institute Discussion Papers
Creation-Date: 2026-05-29
Number: 26-026/III
Author-Name: H. Peter Boswijk
Author-Workplace-Name: University of Amsterdam
Author-Name: Roger J. A. Laeven
Author-Workplace-Name: University of Amsterdam
Author-Name: Niels Marijnen
Author-Workplace-Name: University of Amsterdam
Author-Name: Evgenii Vladimirov
Author-Workplace-Name: Erasmus University Rotterdam
Title: Characteristic Function-Based Factor Modeling of Affine Jump-Diffusions using Options
Abstract: We develop a framework to analyze option markets using factor modeling techniques,
offering a novel method to study how many and which risk factors drive the price process of a single asset. We exploit information contained in option prices to construct observations on the characteristic function of the returns on the underlying asset, without having to specify a parametric model. Our asymptotic setting is one in which the number of observed options, with varying strikes, tends to infinity. We establish consistency and asymptotic normality of the option-based log-characteristic function estimator, and provide a feasible central limit theorem that can be used for testing. Based on this, we prove that principal component analysis is able to extract the factors of affine jump-diffusions. We show in Monte Carlo simulations that our has good finite-sample properties. An empirical application indicates that the main factor driving S&P 500 returns is a stochastic variance process, along with a factor related to left-tail jump risk, and that at least two factors are needed to explain higher-order moments with reasonable accuracy.
Classification-JEL: C14, C38, G13
Keywords: Options, Factor Model, Characteristic Function, Affine Jump-Diffusion
File-URL: https://papers.tinbergen.nl/26026.pdf
File-Format: application/pdf
File-Size: 953.677 bytes
Handle: RePEc:tin:wpaper:20260026