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The Sum of All Fears: Forecasting International Returns using Option-implied Risk Measures

This paper investigates international index return predictability using daily-updated option-implied information in predictive regressions and out-of-sample forecasts. We document the significant predictive power of the variance risk premium (VRP), Generalized Riskiness (GR), and higher-order moments for horizons ranging from 1 to 250 days. These four risk metrics, which capture cumulative market “fears”, perform well in the US and internationally. VRP and GR are significant and complementary predictors for several horizons, including under one month (VRP) and longer horizons (GR). Risk-neutral skewness and kurtosis are significant for several countries across multiple horizons. Utility gain calculations confirm the economic significance of these risk-neutral variables internationally.