How Informationally Efficient Are Options Markets?

48 Pages Posted: 28 Dec 2018

See all articles by Luis Goncalves-Pinto

Luis Goncalves-Pinto

University of New South Wales (UNSW); Chinese University of Hong Kong (CUHK)

Date Written: December 12, 2018

Abstract

The ability of option-based measures to predict future stock returns is not a sufficient condition for the existence of incremental information in options. If options markets are informationally more efficient than the stock market, then option measures can be used to predict future actual stock returns, but there should be weaker or no predictability for future synthetic (option-implied) stock returns. This paper documents that existing proxies for informed option trading, such as the option to stock volume ratio, predict both actual and synthetic stock returns to the same extent, around the release of scheduled and unscheduled firm-specific news. This is evidence inconsistent with the greater informational efficiency of the options markets, and casts doubt on the presence of extra information in options. The empirical analysis is motivated using a noisy rational expectations model with informed investors who can trade simultaneously in stock and options.

Keywords: Information Markets, Put-Call Parity, Synthetic Returns, Predictability

JEL Classification: G11, G12, C13

Suggested Citation

Goncalves-Pinto, Luis, How Informationally Efficient Are Options Markets? (December 12, 2018). Available at SSRN: https://ssrn.com/abstract=3297953 or http://dx.doi.org/10.2139/ssrn.3297953

Luis Goncalves-Pinto (Contact Author)

University of New South Wales (UNSW) ( email )

Kensington
High St
Sydney, NSW 2052
Australia

HOME PAGE: http://luis.goncalvespinto.com/

Chinese University of Hong Kong (CUHK) ( email )

Cheng Yu Tung Building
Shatin
Hong Kong
Hong Kong

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