Retail Trading in Options and the Rise of the Big Three Wholesalers

Abstract

We document a rapid increase in retail trading in options in the U.S. Facilitated by payment for order flow (PFOF) from wholesalers executing retail orders, retail trading recently reached over 60% of the total market volume. Nearly 90% of PFOF comes from three wholesalers. Exploiting new flags in transaction-level data, we isolate wholesaler trades and build a novel measure of retail options trading. Our measure comoves with equity-based retail activity proxies and drops significantly during U.S. brokerage platform outages and trading restrictions. Retail investors prefer cheaper, weekly options, with the average bid-ask spread of a whopping 12.6%, and lose money on average.

Keywords: Retail, payment for order flow, internalization, WallStreetBets, Rule 606 reports, price improvement auctions

JEL Classification: G4, G5, G11, G12, D45