Fixed income volatility and equity volatility evolve heterogeneously over time, co-moving disproportionately during periods of global imbalances and each reacting to events of different nature. While the methodology for options-based "model-free" pricing of equity volatility has been known for some time, little is known about analogous methodologies for pricing various fixed income volatilities.
This book fills this gap and provides a unified evaluation framework of fixed income volatility while dealing with disparate markets such as interest-rate swaps, government bonds, time-deposits and credit. It develops model-free, forward looking indexes of fixed-income volatility that match different quoting conventions across various markets, and uncovers subtle yet important pitfalls arising from naïve superimpositions of the standard equity volatility methodology when pricing various fixed income volatilities.
While the exposition is of a theoretical nature, the authors’ goal is to provide foundations that make their work immediately relevant to practice. Ultimately, the indexes in this book should become actualized by the industry and tradable to fill the void in standardized fixed income volatility benchmarking and trading. Some of the interest rate volatility indexes in this book are already being implemented by the Chicago Board Options Exchange as the interest-ate volatility counterparts to the widely known VIX index of equity market volatility, and efforts are underway to make these tradable through listed products to fill the void in standardized fixed income volatility trading on the back of broad-based enthusiasm for it by a wide range of buy- and sell-side institutions.
The ultimate goal of our efforts is to make interest rate volatility standardization a valuable channel of information, helping design signal generation and trading strategies, or, to mention another example, informing policy makers about how decisions and communication affect ongoing developments in fixed income volatility. More generally, we hope our work will help inform the public about how uncertainty is perceived by key players in one of the most important segments in the whole capital
