Variance Bounds Test of Volatility Expectations in Eurodollar Futures Options Markets

The subject of market efficiency has long been investigated in the area of financial economics and drawn much attention from investors in financial markets. This paper is about the variance bounds test of market efficiency through the option valuation model in the Eurodollar futures and options markets. In equity market, most empirical research found that fluctuations in observed stock prices seem to be too large to be explained by the changes in underlying economic fundamentals. We test empirically whether the volatility expectations are too volatile to be explained by the changes in fundamental value in Eurodollar futures options markets. The tests of the variance bounds inequality suggest that the rationally forecast implied volatility over the life of option fluctuates less than the ex post actual volatility and conveys available information efficiently about future volatility in the market of the underlying security. The bootstrap method is applied for the statistical significance of the test without any distributional assumptions.