NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

The Price of Political Uncertainty: Theory and Evidence from the Option Market

Bryan Kelly, Lubos Pastor, Pietro Veronesi

NBER Working Paper No. 19812
Issued in January 2014
NBER Program(s):   AP   CF   EFG   POL

We empirically analyze the pricing of political uncertainty, guided by a theoretical model of government policy choice. After deriving the model's predictions for option prices, we test those predictions in an international sample of national elections and global summits. We find that political uncertainty is priced in the option market in ways predicted by the theory. Options whose lives span political events tend to be more expensive. Such options provide valuable protection against the risk associated with political events, including not only price risk but also variance and tail risks. This protection is more valuable in a weaker economy as well as amid higher political uncertainty.

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Document Object Identifier (DOI): 10.3386/w19812

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