The Puzzle of Index Option Returns

42 Pages Posted: 21 Oct 2009 Last revised: 25 Sep 2012

George M. Constantinides

University of Chicago - Booth School of Business; National Bureau of Economic Research (NBER)

Jens Carsten Jackwerth

University of Konstanz - Department of Economics

Alexi Savov

New York University (NYU) - Department of Finance; National Bureau of Economic Research (NBER)

Date Written: February 9, 2012

Abstract

We document that leverage-adjusted returns on S&P 500 index call and put portfolios are decreasing in their strike-to-price ratio over 1986-2010, contrary to the prediction of the Black-Scholes-Merton model. We test a large number of plausible unconditional factor models and find that only factors which capture jumps in the market index and jumps in the market volatility and, to a lesser extent, volatility and liquidity reasonably explain the cross-section of index options. The principal finding is that these factors require economically and statistically different factor premia on subsamples split across type (calls and puts), maturity, and moneyness, pointing towards market segmentation.

Keywords: index option returns, option mispricing, volatility jumps, price jumps, liquidity, market efficiency

JEL Classification: G11, G13, G14

Suggested Citation

Constantinides, George M. and Jackwerth, Jens Carsten and Savov, Alexi, The Puzzle of Index Option Returns (February 9, 2012). Fama-Miller Working Paper ; Chicago Booth Research Paper No. 11-24. Available at SSRN: https://ssrn.com/abstract=1491469 or http://dx.doi.org/10.2139/ssrn.1491469

George M. Constantinides

University of Chicago - Booth School of Business ( email )

5807 S. Woodlawn Avenue
Chicago, IL 60637
United States
773-702-7258 (Phone)
773-752-0458 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Jens Carsten Jackwerth (Contact Author)

University of Konstanz - Department of Economics ( email )

Universitaetsstr. 10
Konstanz, 78457
Germany
+497531882196 (Phone)
+497531883120 (Fax)

HOME PAGE: http://cms.uni-konstanz.de/wiwi/jackwerth/

Alexi Savov

New York University (NYU) - Department of Finance ( email )

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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