Corridor Volatility Risk and Expected Returns

In this paper we examine the pricing of volatility risk using SPX corridor implied volatility. We decompose model-free total implied volatility into various components using different segments of the cross section of out-of-the money put and call option prices. We find that only model-free volatility computed from the cross section of out-of-the-money call option prices carries a significant negative risk premium in the cross section of stock returns and also contains all relevant information for forecasting future volatility risk. Overall, our empirical results provide strong evidence that SPX out-of-the money put option prices do not contain useful information for capturing systematic volatility risk in equity returns.