The Information Content of Option Demand
University of Zurich; Swiss Finance Institute
December 7, 2013
Swiss Finance Institute Research Paper No. 12-43
We develop a measure that indicates when options demand is driven by directional information or uninformed motives. The measure solves the filtering problem of the sign and the magnitude of directional information in public option trading data and persistently predicts stock returns. Trading strategies conditional on the measure generate significant returns. For instance, when the measure indicates positive (negative) information, out-of-the-money calls (puts) with 1 month maturity generate returns of 22% (26%). An increase in directionally informed demand predicts a decrease in option liquidity and increases deviations from no-arbitrage pricing relations, suggesting that market makers anticipate the asymmetric information.
Number of Pages in PDF File: 79
Keywords: Option Demand, Market Sidedness, Open Interest, Liquidity, Market Microstructure
JEL Classification: D82, G10, G12, G14working papers series
Date posted: October 16, 2012 ; Last revised: December 8, 2013
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