An Empirical Study of the Option Pricing Formula with the Underlying Banned from Short Sell

26 Pages Posted: 11 Nov 2019

See all articles by Mesias Alfeus

Mesias Alfeus

University of Cape Town (UCT) - African Collaboration for Quantitative Finance and Risk Research

Xin-Jiang He

University of Wollongong

Song-Ping Zhu

University of Wollongong

Date Written: October 30, 2019

Abstract

Short sell bans are often imposed during a financial crisis as a desperate measure to stabilize financial markets. Yet, the impact of short sell bans on option pricing and hedging is not well quantitatively studied until very recently when Guo and Zhu (2017) and He and Zhu (2018) formulated a new pricing framework with the underlying being either completely or partially banned from short selling. However, no empirical results were provided to substantiate the usefulness of the formulae, as well as to deepen our understanding on the effects of short sell bans. This paper provides a comprehensive empirical study on the effects of short sell bans to the standard option pricing theory by carrying out both cross-sectional and options time series model calibration of the model devised by He and Zhu (2018). Overall, our empirical results indicate that the alternative option pricing formula considering short sell restrictions has the ability to capture highly-quoted implied volatility, with an evident improvement of 39% out-of-sample performance compared to the benchmark Black-Scholes model during the period of short sell ban.

Keywords: Option pricing, Short sell ban, Calibration, S\&P/ASX 200 index, Out-of-sample.

JEL Classification: G12, G13, G23.

Suggested Citation

Alfeus, Mesias and He, Xin-Jiang and Zhu, Song-Ping, An Empirical Study of the Option Pricing Formula with the Underlying Banned from Short Sell (October 30, 2019). Available at SSRN: https://ssrn.com/abstract=3478355 or http://dx.doi.org/10.2139/ssrn.3478355

Mesias Alfeus (Contact Author)

University of Cape Town (UCT) - African Collaboration for Quantitative Finance and Risk Research ( email )

University of Cape Town
Rondebosch
Cape Town, Western Cape 7700
South Africa

Xin-Jiang He

University of Wollongong ( email )

Northfields Avenue
Wollongong, New South Wales 2522
Australia

Song-Ping Zhu

University of Wollongong ( email )

Northfield Ave.
Wollongong, NSW
Australia
61-2-42213807 (Phone)

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