3. Methodology and Data

This chapter first discusses the methodology to test the 18 hypotheses that have been developed in Chap. 1. For hypothesis 1–9, the methods are used to (a) estimate the IV based on the ATM price of call and put options with 1-, 2-, and 3-month maturity during the opening, midday, and closing period of a trading day, (b) estimate the RV for the underlying currency of options and using it as the proxy for the actual foreign exchange volatility, and (c) analyse the performance of IV to forecast RV for the within-week, 1-week, and 1-month forecast horizon. For hypothesis 10–18, the procedures are employed to (a) calculate the call options model price (CMOD) and put options model price (PMOD) using the ATM estimated IV as input for the options pricing model, and (b) compare the CMOD and PMOD with the call and put options market price, respectively, evaluating the performance of IV to estimate the price of currency options for the within-week, 1-week, and 1-month estimate horizon. Finally, the details of the data are described in this chapter.