What Insights Do Short-Maturity (7DTE) Return Predictive Regressions Offer about Risk Preferences in the Oil Market?

What Insights Do Short-Maturity (7DTE) Return Predictive Regressions Offer about Risk Preferences in the Oil Market?

Blog Article

In this study, we investigate the ability of three higher-order risk-neutral return cumulants to predict short maturity (weekly) returns of oil futures.Our data includes weekly West Texas Crude Oil futures options that expire in 7 days (7DTE).Using a model-free approach, we estimate these risk-neutral return cumulants at the beginning of each Baskets options expiration cycle.Our results suggest that the third risk-neutral return cumulant consistently predicts the bishop rotary returns of various oil futures (including WTI, Brent, Dubai, Heating Oil, and RBOB Gasoline).

We compare our findings with 14 other predictors and offer a theoretical explanation for the negative coefficient observed for the 7DTE third risk-neutral return cumulant.Our theory connects higher-order risk-neutral return cumulants with the risk premiums of oil futures.Furthermore, our quantitative investment strategy favors the predictability of oil futures returns.