Deformation of implied volatility surfaces: an empirical analysis

Abstract

The evolution of market prices of options is often represented in terms of the implied volatility surface, which randomly fluctuates through time. Using time series of transaction prices for S&P500 index options, we study the dynamics of the implied volatility surface and illustrate how its deformation through time may be captured by a small number of orthogonal factors. These factors are identified and their dynamics is shown to be well approximated by uncorrelated Ornstein Uhlenbeck...