The Relationship between Option Trading Intensity and the Market Microstructure of the Underlying Security

Posted: 16 Sep 1999

See all articles by Stewart Mayhew

Stewart Mayhew

Cornerstone Research

Atulya Sarin

Santa Clara University - Department of Finance

Kuldeep Shastri

University of Pittsburgh - Finance Group

Abstract

This paper examines the differences in stock market volume, volatility and quotes during intervals in which options trade versus periods in which options do not trade. We find that options trade when the stock market is active and volatile. However, there is a negative relationship between short run volatility and option trading intensity. Also, bid-ask spreads are higher and the depth of the quotes is lower when options trade. This is partially because the probability of a transaction occurring within the spread and the autocorrelation between successive price changes is higher in option trading times, but this deterioration in quotes is not accompanied by an increase in adverse selection or inventory costs and needs further investigation.

JEL Classification: G13

Suggested Citation

Mayhew, Stewart and Sarin, Atulya and Shastri, Kuldeep, The Relationship between Option Trading Intensity and the Market Microstructure of the Underlying Security. Available at SSRN: https://ssrn.com/abstract=6233

Stewart Mayhew

Cornerstone Research ( email )

1919 Pennsylvania Avenue NW
Suite 600
Washington, DC 20006-3420
United States

Atulya Sarin (Contact Author)

Santa Clara University - Department of Finance ( email )

Leavey School of Business and Administration
Santa Clara, CA 95053
United States
408-554-4953 (Phone)
408-904-4498 (Fax)

HOME PAGE: http://business.scu.edu/asarin

Kuldeep Shastri

University of Pittsburgh - Finance Group ( email )

372 Mervis Hall
Pittsburgh, PA 15260
United States
412-648-1708 (Phone)
412-648-1693 (Fax)

HOME PAGE: http://www.pitt.edu/~ks112354

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