The Decline of Informed Trading in the Equity and Options Markets

Posted: 2 Mar 2018 Last revised: 16 Aug 2018

See all articles by Charles Cao

Charles Cao

Pennsylvania State University

David Gempesaw

Pennsylvania State University

Timothy T. Simin

Pennsylvania State University

Date Written: October 2017

Abstract

Reliable excess returns from active portfolio management derive from informed trading. We investigate the information content of informed trading in the equity market and the options market. We find that informed equity trading and options trading are positively correlated in the time-series, but virtually uncorrelated cross-sectionally. Portfolio-level and stock-level analyses provide robust evidence that the cross-sectional return predictive power of informed trading in each market is distinct. Time-series analyses indicate that aggregate informed options trading is useful for predicting market returns, but that the amount of informed trading has declined significantly in more recent years. The time-series patterns of both our informed trading measures coincide closely with the decline in equity hedge fund excess returns.

Keywords: informed trading, hedge funds, implied volatility, stock return predictability

JEL Classification: G10, G12, G14

Suggested Citation

Cao, Charles and Gempesaw, David and Simin, Timothy T., The Decline of Informed Trading in the Equity and Options Markets (October 2017). Journal of Alternative Investments, Forthcoming. Available at SSRN: https://ssrn.com/abstract=3124445

Charles Cao

Pennsylvania State University ( email )

Department of Finance
Smeal College of Business
University Park, PA 16802
United States
814-865-7891 (Phone)
814-865-3362 (Fax)

HOME PAGE: http://www.personal.psu.edu/qxc2/cao.html

David Gempesaw (Contact Author)

Pennsylvania State University ( email )

University Park
State College, PA 16802
United States

Timothy T. Simin

Pennsylvania State University ( email )

University Park, PA 16802
United States
814-865-3457 (Phone)

HOME PAGE: http://timsimin.net

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