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Option Trading: Information or Differences of Opinion?

56 Pages Posted: 28 Apr 2009 Last revised: 4 Apr 2011

Siu-Kai Choy

Shanghai University of Finance and Economics - Department of Finance

Jason Zhanshun Wei

University of Toronto - Rotman School of Management

Date Written: April 1, 2011

Abstract

This paper investigates the motive of option trading. We show that option trading is mostly driven by differences of opinion, a finding different from the current literature that attempts to attribute option trading to information asymmetry. Our conclusion is based on three pieces of empirical evidence. First, option trading around earnings announcements is speculative in nature and mostly dominated by small, retail investors. Second, around earnings announcements, the pre-announcement abnormal turnovers of options seem to predict the post-announcement abnormal stock returns. However, once we control for the pre-announcement stock returns, the predictability completely disappears, implying that option traders simply take cues from the stock market and turn around to speculate in the options market. Third, cross-section and time-series regressions reveal that option trading is also significantly explained by differences of opinion at ordinary times. While informed trading is present in stocks, it is not detected in options.

Keywords: option trading, differences of opinion, informed trading, speculation, earnings announcements

JEL Classification: G18, G12, G14

Suggested Citation

Choy, Siu-Kai and Wei, Jason Zhanshun, Option Trading: Information or Differences of Opinion? (April 1, 2011). Available at SSRN: https://ssrn.com/abstract=1395205 or http://dx.doi.org/10.2139/ssrn.1395205

Siu-Kai Choy (Contact Author)

Shanghai University of Finance and Economics - Department of Finance ( email )

Shanghai, 200433
China

Jason Zhanshun Wei

University of Toronto - Rotman School of Management ( email )

105 St. George Street
Toronto, Ontario M5S 3E6 M5S1S4
Canada
416-978-3698 (Phone)
416-971-3048 (Fax)

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