Market Manipulation Schemes at Option Expiration

Abstract

This paper discusses market manipulation schemes on option expiration dates. We show that under ordinary circumstances, writers, but not holders, would have an incentive to manipulate the expiration of standard options, but both are incentivized to manipulate cash-settled options. Using our baseline results, we examine profits and incentives for a number of common option strategies. We then discuss a number of novel changes in modern option markets, such as automatic (as opposed to optional) exercise, different methods of calculating settlement prices, and passive exit strategies, and how these innovations affect the incentives to manipulate. Finally, we discuss manipulation for positional as opposed to profit-taking motives and examine several recent regulatory cases involving option manipulation.

Keywords: Manipulation, Hedging, Option Expiration

JEL Classification: G12, G13, G18, K22