Limited Attention and Option Prices
Swiss Finance Institute Research Paper No. 20-64
76 Pages Posted: 6 Aug 2020 Last revised: 10 May 2022
Date Written: January 31, 2022
We show that (partial) inattention to the underlying stock prices generates a demand pressure for options on low-priced stocks, resulting in overpricing of such options. Empirically, we find that delta-hedged options on low-priced stocks underperform those on high-priced stocks by 0.63% per week for calls and 0.36% for puts. Natural experiments corroborate this finding; options tend to become relatively more expensive following stock splits, and options on mini-indices are overpriced relative to options written on otherwise identical regular indices. Skewness preference does not explain our results.
Keywords: Option Returns, Investor Inattention
JEL Classification: G13, G14
Suggested Citation: Suggested Citation