Overcoming Arbitrage Limits: Option Trading and Momentum Returns

88 Pages Posted: 24 Jul 2018 Last revised: 28 Jan 2021

See all articles by Abhay Abhyankar

Abhay Abhyankar

MOVE,Departament d'Economia i d'Història Econòmica, Universitat Autònoma de Barcelona

Ilias Filippou

Washington University in St. Louis - John M. Olin Business School

Pedro Angel Garcia-Ares

Instituto Tecnológico Autónomo de México (ITAM)

Date Written: December 26, 2020

Abstract


We find that the decline in momentum profitability is partly driven by option trading. Momentum profits arise from the short leg and therefore on barriers to short selling. We find strong evidence that the presence of stock options creates alternate avenues for short selling, augmenting the stock lending market, thus contributing to improved pricing efficiency. However, when options trading becomes expensive, the short position offers lower returns. We find that our results remain unchanged when we match the universe of stocks with and without options based on variables that determine the eligibility of a stock to be optionable, indicating that firm-level characteristics cannot account for the significant differences in the profitability of the two strategies.

Keywords: Momentum Returns, Stock Option Trading, Short-Sale Constraints

JEL Classification: G11, G12, G14, G32

Suggested Citation

Abhyankar, Abhay and Filippou, Ilias and Garcia-Ares, Pedro Angel, Overcoming Arbitrage Limits: Option Trading and Momentum Returns (December 26, 2020). Proceedings of Paris December 2019 Finance Meeting EUROFIDAI - ESSEC, Available at SSRN: https://ssrn.com/abstract=3206873 or http://dx.doi.org/10.2139/ssrn.3206873

Abhay Abhyankar

MOVE,Departament d'Economia i d'Història Econòmica, Universitat Autònoma de Barcelona ( email )

Campus de Bellaterra-UAB Edifici B
Cerdanyola del Vallès
Barcelona, Catalunya 08193
Spain

HOME PAGE: http://https://www.movebarcelona.eu/index.php/people/alphabetical-directory

Ilias Filippou

Washington University in St. Louis - John M. Olin Business School ( email )

One Brookings Drive
Campus Box 1133
St. Louis, MO 63130-4899
United States

Pedro Angel Garcia-Ares (Contact Author)

Instituto Tecnológico Autónomo de México (ITAM)

Av. Camino a Sta. Teresa 930
Col. Héroes de Padierna
Mexico City, D.F. 01000, Federal District 01080
Mexico

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