Bid-Ask Spread and Arbitrage Profitability: A Study of the Hong Kong Index Futures and Options Market

Posted: 12 Dec 1996

See all articles by Kee-Hong Bae

Kee-Hong Bae

York University - Schulich School of Business

Kalok Chan

CUHK Business School

Stephen Yan-Leung Cheung

City University of Hong Kong (CityUHK) - Department of Economics & Finance

Date Written: Undated

Abstract

This study utilizes both real-time transaction prices and bid-ask quotes in evaluating the profitability of arbitrage strategies for the Hong Kong index futures and index options market. Taking into account the bid-ask spread in identifying arbitrage opportunities, we avoid the selection bias problem associated with using transaction prices. The percentage of observations violating no-arbitrage bounds is significantly reduced when we employ bid-ask quotes instead of transaction prices. This suggests that studies which implement arbitrage strategies based on transaction prices employ prices from the wrong side of the spread. We find a relationship between the frequency of violations (evaluated from transaction prices) and the size of bid-ask spreads in the futures and options markets. This indicates that a larger mispricing, which may arise when the bid-ask spread is wider, does not necessarily imply profitable arbitrage opportunity.

JEL Classification: G13, G14

Suggested Citation

Bae, Kee-Hong and Chan, Kalok and Cheung, Stephen Yan-Leung, Bid-Ask Spread and Arbitrage Profitability: A Study of the Hong Kong Index Futures and Options Market (Undated). Available at SSRN: https://ssrn.com/abstract=7980

Kee-Hong Bae

York University - Schulich School of Business ( email )

4700 Keele Street
Toronto, Ontario M3J 1P3
Canada
416-736-2100 ext) 20248 (Phone)
416-736-5687 (Fax)

Kalok Chan

CUHK Business School ( email )

Hong Kong
852 3943 9988 (Phone)

Stephen Yan-Leung Cheung (Contact Author)

City University of Hong Kong (CityUHK) - Department of Economics & Finance ( email )

83 Tat Chee Avenue
Kowloon
Hong Kong
+852 2788 7960 (Phone)
+852 2788 8806 (Fax)

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