Pricing VXX options with observable volatility dynamics from high-frequency VIX index

This paper develops a discrete-time joint analytical framework for pricing volatility index (VIX) and VXX options consistently. We show that our framework is more flexible than continuous-time VXX models as it allows the information contained in the high-frequency VIX index to be incorporated for the joint pricing of VIX and VXX options, and the joint pricing formula is derived. Our empirical analysis shows that the model that utilizes the realized variance (RV) computed from the high-frequency VIX index data significantly outperforms the model that does not rely on the VIX RV in the joint pricing both in-sample and out-of-sample, reinforcing the beliefs that high-frequency data are informative about the derivatives pricing.