Testing for Asset Price Bubbles using Options Data
44 Pages Posted: 27 Aug 2020 Last revised: 13 May 2021
Date Written: August 10, 2020
We present a new approach to identifying asset price bubbles based on options data. Given their forward-looking nature, options are ideal instruments with which to investigate market expectations about the future evolution of asset prices, which are key to understanding price bubbles. By exploiting the differential pricing between put and call options, we can detect and quantify bubbles in the prices of underlying asset. We apply our methodology to two stock market indexes, the S&P 500 and the Nasdaq-100, and two technology stocks, Amazon and Facebook, over the 2014-2018 sample period. We find that, while indexes exhibit rare and modest bubbles, Amazon and Facebook show more frequent and much larger bubbles. Since our approach can be implemented in real time, it is useful to both policy-makers and investors. As an illustration, our methodology applied to GameStop identifies a significant bubble between December 2020 and January 2021.
Keywords: Asset Price Bubbles, Option Pricing, Stochastic Volatility, Martingales, Local Martingales
JEL Classification: C51, C52, G12, G13
Suggested Citation: Suggested Citation