Download or read book Predicting Volatility and the Information Content of Informed Traders in an Option Market written by Teng-Ching Huang and published by . This book was released on 2015 with total page 38 pages. Available in PDF, EPUB and Kindle. Book excerpt: We investigate the impact of information trading on predicting variation of implied volatility. First, we find that informed traders do trade in the index options market. The predicting biases of implied volatilities on the realized volatility are correlated with the information trading. Second, we find that delta market depth and bid-ask spread are correlated with the predicting variations in implied volatilities. Moreover, the difference between realized and implied volatility, bid-ask spread, and delta market depth are the determinants of price discovery in the option market. Third, the intraday patterns in realized volatility exhibit an inverse J-shape, which induces forecasting biases in implied volatilities. Finally, based on the performance of the volatility trading strategy, the result does not support efficient market hypothesis.

Download or read book An Empirical Examination of Informed Trading in the Option Market written by Thi Thanh Van Le and published by . This book was released on 2012 with total page 376 pages. Available in PDF, EPUB and Kindle. Book excerpt: Despite a growing research interest in option trading and its impact on the pricing of the underlying asset, the role of options as a vehicle for informed trading remains an important economic question which has not yet been fully explored. In fact, even though academics have often argued that informed traders may prefer to trade in the option market rather than the equity market1, the question of whether (and to what extent) such a proposition would hold in practice has not been systematically addressed in the literature. This overarching research problem forms the foundation of this doctoral research project, leading to two important research questions. First, if investors do in fact use options to trade on information about underlying stock prices in practice, what implications does this have for the option (stock) pricing and forecasting? Second, what are the key factors driving traders' decisions to trade on new information in one market over another? These two issues correspond to the two gaps found in the extant literature on option trading, and also in the strand of empirical studies focusing on the role of options as a mechanism for trading on information about the underlying asset. To explore these research questions, three interrelated projects have been undertaken, each with a unique contribution to informing the research topic. These closely related investigations jointly provide consolidated answers to the two research questions raised previously. In response to the first research question, we pursue two strands of empirical investigation to examine the presence of informed trading in the option market. Firstly, we investigate the extent to which the information content extracted from options trading can be used to enhance predictions of the future volatility realised by underlying stocks. Secondly, we examine the price impact of information trading activities within the option market, focusing especially on the way in which the level of trading activities can explain and predict the future dynamics of the option implied volatility smile. Both of these strands yield evidence in support of information trading activities existing in the option market. Regarding the second research question, our collective evidence indicates that the allocation of informed traders between option and stock markets depends on the trade-off of transaction costs and trading opportunities existing in two related markets. This finding has consistently been corroborated by separate evidence emerging from our independent investigations. We found that the degree of information trading in the option market varies across different stocks, corresponding to variations in the level of individual stock liquidity. It has also been found that the degree of information asymmetry of option trades changed in response to changes in trading costs driven by regulatory changes observed during the 2008 short-sale ban. This research makes a valuable contribution to the field of option research. From the theoretical perspective, it addresses significant gaps in the existing literature and extends our understanding of informed trading activities in the option market. In particular, it contributes to the body of knowledge on the economic value of derivatives by investigating the critical role they have played in the process of incorporating new information into the market. From the practical perspective, it proposes a simple-yet-effective technique which employs trading volume to improve forecasts of the underlying stock volatility and of the option implied volatility (price) respectively. Since volatility plays such a central role in the practice of derivatives trading, risk analysis and portfolio management, better forecasts of these quantities are clearly important and highly regarded by practitioners. 1 Mainly due to higher financial leverages, reduced transactions costs and wider trading opportunities (eg speculation on volatility) (Black, 1975).

Download or read book Informed Trading in Options Markets and Its Information Value written by Justin Vitanza and published by . This book was released on 2015 with total page 83 pages. Available in PDF, EPUB and Kindle. Book excerpt: "In this paper, I present evidence that informed traders represent a large enough portion of option market activity to impact market prices. By entering the market on the long side before positive or negative events, they drive up both open interest and ask prices, while bid prices remain relatively stable. Seeing this pattern is indicative of either positive (when found in calls) or negative (for puts) future news announcements. When conditioning on these announcements, we also see that this pattern predicts return reactions. In particular, information embedded in option prices is useful in predicting earnings surprises and reactions to mergers. My primary measure of option information content is the change in the difference between implied volatility and realized daily volatility measured over the previous month. With hindsight, this difference rises prior to positive announcements for call options, while it rises prior to negative announcements for put options. This differential behavior provides strong evidence that these assets are not redundant in practice, as is often implied by option pricing models. Further, this information constitutes a primary risk factor in equity markets, as positive announcement risk is positively related to future returns due to the procyclicality of these announcements. Efficiently utilizing this information suggests a long-short trading strategy that yields over 1.2 percent per month. This strategy also completely explains the call-put volatility spread anomaly and is robust to controls for aggregate volatility sensitivity and known metrics that purport to monitor informed trading"--Page v.

Download or read book The Information Content of Options written by Yonatan Navon and published by . This book was released on 2014 with total page 382 pages. Available in PDF, EPUB and Kindle. Book excerpt: The objective of this thesis is to examine the information content of stock options in financial markets. A key question in financial economics is how information diffuses across markets and how quickly it is reflected in security prices. This thesis aims at exploring this question by investigating the informational role that options play in financial markets. This is achieved by exploring the joint cross section of option and bond prices, the informational role of options in seasoned equity offerings (SEOs), and the information content of options trading prior to announcements of changes to the S&P 500 Index.The thesis comprises three essays, each exploring the information content of equity options trading from a different angle. The first essay examines the joint cross section of option implied volatility and corporate bond returns. Theoretical and empirical work in finance suggests that stocks and bonds of the same issuing firm should share common risk factors. Therefore, new information about a firm should affect both its stock and bond prices. However, if one market offers trading incentives over other markets, informed traders and traders with better ability to process information may choose to trade in that market over the others. As a result, markets that provide advantages to informed traders will incorporate information prior to other markets. The empirical analysis in this chapter reveals that options trading is strongly predictive of corporate bond returns. A strategy of buying (selling) the portfolio with the lowest (highest) changes in option implied volatility yields an average monthly excess bond return of 1.03%. This strategy is statistically highly significant and economically very meaningful and indicates that information is incorporated into option prices prior to bond prices. In contrast, I find no evidence that bond prices incorporate information prior to option or stock prices. Since bond investors are generally sophisticated institutional investors who process information efficiently and the predictive ability of options is persistent, I conclude that informed trading rather than superior information processing abilities is responsible for the predictive ability of options.The second essay explores the information content of option implied volatility around the announcements and issue dates of SEOs. The literature on SEOs indicates that announcements and issue dates contain important information about firms and therefore provide profitable opportunities for traders with private information. While prior research has focused on the information content of short sales around SEOs, this study focuses on the information content of options which can act as an alternative for short selling. The empirical analysis provides evidence of informed trading in the options market around SEO announcements. Around SEO issue dates, I find that higher demand for put options is significantly related to larger issue discounts which is consistent with the manipulative trading hypothesis. The results in this study indicate that regulators should consider extending the short-sale restrictions of Rule 105 to restrict trading in related securities.Finally, the third essay investigates the information content of options prior to the S&P 500 Index inclusion and exclusion announcements. These announcements are unique events since they are not announced by the firm and, as stated by S&P, they should convey no new information. In addition, the large abnormal returns observed following these announcements make them distinctive ground for testing the informational role of options. Consistent with the notion that informed traders operate in the options market, the empirical results in this essay indicate that there is a significant relationship between options trading preceding index inclusion announcements and abnormal returns following these announcements. In contrast, I find no evidence for a relationship between options trading and abnormal returns following exclusion announcements.

Download or read book Information Trading Volatility and Liquidity in Option Markets written by Joseph A. Cherian and published by . This book was released on 1997 with total page 42 pages. Available in PDF, EPUB and Kindle. Book excerpt:

Download or read book Volatility Information Trading in the Option Market written by Sophie Xiaoyan Ni and published by . This book was released on 2009 with total page 36 pages. Available in PDF, EPUB and Kindle. Book excerpt: This paper investigates informed trading on stock volatility in the option market. Using a unique data set from the Chicago Board Options Exchange, we construct non-market maker net demand for stock volatility from the trading volume of individual equity options. We find that this volatility demand is informative about the future realized volatility of underlying stocks which suggests the presence of volatility information traders in the option market. We also examine asset pricing implications of volatility information trading by measuring Kyle's lambda: The impact on option prices for each unit increase in volatility demand. The price impact is positive which is consistent with the existence of informational asymmetry about stock volatility. More importantly, we link the time variation in the price impact to the time variation in the degree of informational asymmetry. In particular, the price impact increases by over 50 percent as informational asymmetry about stock volatility intensifies in the days leading up to earnings announcements and diminishes to its normal level soon after the volatility uncertainty is resolved.

Download or read book Forecasting Volatility in the Financial Markets written by Stephen Satchell and published by Elsevier. This book was released on 2002-08-22 with total page 417 pages. Available in PDF, EPUB and Kindle. Book excerpt: 'Forecasting Volatility in the Financial Markets' assumes that the reader has a firm grounding in the key principles and methods of understanding volatility measurement and builds on that knowledge to detail cutting edge modelling and forecasting techniques. It then uses a technical survey to explain the different ways to measure risk and define the different models of volatility and return.The editors have brought together a set of contributors that give the reader a firm grounding in relevant theory and research and an insight into the cutting edge techniques applied in this field of the financial markets.This book is of particular relevance to anyone who wants to understand dynamic areas of the financial markets.* Traders will profit by learning to arbitrage opportunities and modify their strategies to account for volatility.* Investment managers will be able to enhance their asset allocation strategies with an improved understanding of likely risks and returns.* Risk managers will understand how to improve their measurement systems and forecasts, enhancing their risk management models and controls.* Derivative specialists will gain an in-depth understanding of volatility that they can use to improve their pricing models.* Students and academics will find the collection of papers an invaluable overview of this field. This book is of particular relevance to those wanting to understand the dynamic areas of volatility modeling and forecasting of the financial marketsProvides the latest research and techniques for Traders, Investment Managers, Risk Managers and Derivative Specialists wishing to manage their downside risk exposure Current research on the key forecasting methods to use in risk management, including two new chapters

Download or read book Information Content of Options Trading Volume for Future Volatility written by Chuang-Chang Chang and published by . This book was released on 2012 with total page 42 pages. Available in PDF, EPUB and Kindle. Book excerpt: This study follows the approach of Ni, Pan and Poteshman (2008) ndash; based upon the vega-weighted net demand for volatility ndash; to determine whether volatility information exists within the Taiwan options market. Our empirical results show that foreign institutional investors possess the strongest and most direct volatility information, which is realized by the delta-neutral options/futures trades. In addition, a few individual investors (less than 1% of individuals' trades) might be informed and realize their volatility information using the strangle strategy. Surprisingly, we find no evidence to support the predictive ability of the volatility demand from straddle trades, despite the widespread acknowledgement that such trades are sensitive to volatility.

Download or read book Three Essays on the Information Content of Stock Options written by Zekun Wu and published by . This book was released on 2021 with total page 0 pages. Available in PDF, EPUB and Kindle. Book excerpt: This dissertation consists of three essays that explore the information content embedded in equity options. The results improve our understanding of the cross-section of option returns, informed trading in the options market, and the industry effect of IPOs. In the first essay, we study the relation between option-implied skewness (IS) and the crosssection of option returns under daily hedging to better understand skewness pricing in isolation from lower moments. Creating portfolios of delta-hedged (D-hedged) and delta-vega-hedged (DV-hedged) options with daily rebalancing, we find that IS is negatively (positively) related to call (put) option returns, but the relation to put options is statistically significant only during economic recessions. The relation is more substantial when the underlying stock has a larger market beta and when the firm has more severe information opacity. Our results suggest that investors' skewness preference grows stronger with greater market risk and lower information quality. In the second essay, we examined the informed trading in the options market before FDA drug advisory committee meetings. We find significant abnormal options trading volume before both meeting dates and report creation dates, particularly for small drug firms. Abnormal volume significantly predicts post-meeting stock returns. Informed traders prefer out-of-the-money options and choose maturities to cover the dates when reports are publicly released. They prefer to sell options close to the meeting date, perhaps to capture returns from both expected stock price changes and the sharp drop in implied volatility post-meeting. In the third essay, I investigate the effect of initial public offerings (IPOs) on industry competitors' options market. I find that rival firms' put (call) options volume increases (decreases) around IPOs, leading to price pressure on call options relative to put options as measured by the implied volatility spread. Rival firms' reaction in the options market also predicts the IPO firms' post-IPO stock performance. Lastly, rival firms with strong operating income experience less negative impact in the options market, suggesting competitive operation performance help stabilize rival firms' options market around IPOs.

Download or read book Implied Volatility Functions written by Bernard Dumas and published by . This book was released on 1996 with total page 34 pages. Available in PDF, EPUB and Kindle. Book excerpt: Abstract: Black and Scholes (1973) implied volatilities tend to be systematically related to the option's exercise price and time to expiration. Derman and Kani (1994), Dupire (1994), and Rubinstein (1994) attribute this behavior to the fact that the Black-Scholes constant volatility assumption is violated in practice. These authors hypothesize that the volatility of the underlying asset's return is a deterministic function of the asset price and time and develop the deterministic volatility function (DVF) option valuation model, which has the potential of fitting the observed cross-section of option prices exactly. Using a sample of S & P 500 index options during the period June 1988 through December 1993, we evaluate the economic significance of the implied deterministic volatility function by examining the predictive and hedging performance of the DV option valuation model. We find that its performance is worse than that of an ad hoc Black-Scholes model with variable implied volatilities.

Download or read book The Informational Content of the Implied Volatility Surface in Commodity Markets written by Jörg Stephan Cyriax and published by . This book was released on 2017 with total page pages. Available in PDF, EPUB and Kindle. Book excerpt: This thesis extends the findings on implied moments in equity markets to commodities and presents supporting evidence for demand-based option pricing and informed trading. Different implied moments measured by various metrics which are calculated based on a set of maturities and moneyness levels as well as their innovations are subject of the presented investigations. The sample comprises the 24 GSCI commodities in the period from January 2006 until June 2017. Several portfolio sorts and additional predictive fixed effects panel regressions confirm an economically and statistically significant negative predictive ability of innovations of relative implied skewness which increases with maturity and distance from at-the-money. This predictive ability is almost purely driven by the anticipation of lower returns, i.e. downside jump risk. A low-minus-high trading strategy based on innovations of implied skewness is constructed returning 11.90\% p.a. (after transaction costs of 0.033\% per trade and with 50\% collateralization) which cannot be explained by common commodity factors. The underlying predictive ability can be reasoned with better information of some market participants (informed trading) whose option demand causes the implied volatility smile to adjust accordingly. Eventually, concurrent and predictive effects of implied volatility and implied skewness for the commodity basis are found which may lay the foundation for extending the implied moments-related research to physical variables.

Download or read book Volatility Information in Index Option Demand written by Tatjana Xenia Puhan and published by . This book was released on 2014 with total page 37 pages. Available in PDF, EPUB and Kindle. Book excerpt: This paper provides evidence that demand for equity index options has predictive power for future volatility beyond current, lagged volatility and the VIX in widely available, low-frequency data. The predictive power increases prior to macroeconomic announcements and exhibits a positive relation with investor uncertainty about macroeconomic news. Straddle positions that trade on the volatility informed index option demand yield annualized Sharpe Ratios that are up to twice as large as the Sharpe Ratios on a long index investment. Sharpe Ratios increase with the amount of volatility informed trading in the options market. In times of high volatility, the demand for straddle positions contains significantly more information and has an impact on option liquidity levels.

Download or read book Volatility Forecasts Trading Volume and the Arch vs Option Implied Volatility Tradeoff written by R. Glen Donaldson and published by . This book was released on 2014 with total page 25 pages. Available in PDF, EPUB and Kindle. Book excerpt: Market expectations of future return volatility play a crucial role in finance; so too does our understanding of the process by which information is incorporated in security prices through the trading process. This paper seeks to learn something about both of these issues by investigating empirically the role of trading volume (a) in predicting the relative informativeness of volatility forecasts produced by ARCH models versus the volatility forecasts derived from option prices, and (b) in improving volatility forecasts produced by ARCH and option models and combinations of models. We find that if trading volume was low during period t-1 then ARCH is much more important than options for forecasting future stock market volatility. Conversely, if volume was high during period t-1, then option-implied volatility is much more important than ARCH for forecasting future volatility. Our findings reveal an important regime-switching role for trading volume and suggest that option markets may be more efficient in high volume states. Results from various tests also uncover possible sources of volume-related nonlinearity in the relationship between past and future return innovations as captured by asymmetric ARCH models.

Download or read book Volatility Information Trading and Its Implications for Information Asymmetry Option Spreads and Implied Volatility Skew written by Wei Quan and published by . This book was released on 2013 with total page 125 pages. Available in PDF, EPUB and Kindle. Book excerpt: Information asymmetry is a critical element in today's financial markets. While asymmetric information related to directional information trading has been extensively studied in the existing literature, there is limited research and evidence on how volatility information trading impacts the options market. This dissertation studies, both theoretically and empirically, the behaviors of volatility information traders in options markets and the implications of their behaviors on information asymmetry and options pricing. I develop a model in which investors can trade multiple option contracts with varying strikes under an asymmetric framework. I show that volatility information trading is more likely to occur in Out of The Money (OTM) options if the overall presence of informed traders is low or if the relative liquidity in OTM options is better than At The Money (ATM) options. Moreover, I show that due to the variation in implicit leverage embedded in the option contracts, the OTM option contract contains a higher volatility information risk than the ATM option contract in equilibrium. In addition, I show that this volatility information risk differential plays a central role in forming the spread structure within an option series with the same underlying asset. Finally, I show that the shape of implied volatility skew (smile) is jointly determined by volatility uncertainty and heterogeneous information risk across the option contracts. I empirically examine the implications of my theory using US equity options data, including two intra-day trade and quote datasets from the Chicago Board Option Exchange (CBOE). I estimate the Volume-Synchronized Probability of Informed Trading (VPIN) variable to measure the volatility information risk in the option market. I show that OTM contracts, on average, have a higher probability of information trading than ATM contracts. I also document that volatility risk explains a considerable proportion of the spread variations in the US equity options market. Finally, I provide evidence that the difference in information asymmetry across strike prices not only helps to explain the dynamics of implied volatility skew but also has a significant impact on the degree to which a change in historical volatility affects the shape of the implied volatility skew.

Download or read book The Information Content of Implied Volatilities and Model Free Volatility Expectations written by Stephen J. Taylor and published by . This book was released on 2008 with total page 64 pages. Available in PDF, EPUB and Kindle. Book excerpt: The volatility information content of stock options for individual firms is measured using option prices for 149 U.S. firms during the period from January 1996 to December 1999. Volatility forecasts defined by historical stock returns, at-the-money (ATM) implied volatilities and model-free (MF) volatility expectations are compared for each firm. The recently developed model-free volatility expectation incorporates information across all strike prices, and it does not require the specification of an option pricing model.Our analysis of ARCH models shows that, for one-day-ahead estimation, historical estimates of conditional variances outperform both the ATM and the MF volatility estimates extracted from option prices for more than one-third of the firms. This result contrasts with the consensus about the informational efficiency of options written on stock indices; several recent studies find that option prices are more informative than daily stock returns when estimating and predicting index volatility. However, for the firms with the most actively traded options, we do find that the option forecasts are nearly always more informative than historical stock returns. When the prediction horizon extends until the expiry date of the options, our regression results show that the option forecasts are more informative than forecasts defined by historical returns for a substantial majority (86%) of the firms. Although the model-free (MF) volatility expectation is theoretically more appealing than alternative volatility estimates and has been demonstrated to be the most accurate predictor of realized volatility by Jiang and Tian (2005) for the Samp;P 500 index, the results for our firms show that the MF expectation only outperforms both the ATM implied volatility and the historical volatility for about one-third of the firms. The firms for which the MF expectation is best are not associated with a relatively high level of trading in away-from-the-money options.

Download or read book Information Trading and Product Market Interactions written by Heather Elise Tookes and published by . This book was released on 2003 with total page 592 pages. Available in PDF, EPUB and Kindle. Book excerpt:

Download or read book Have Financial Markets Become More Informative written by Jennie Bai and published by . This book was released on 2012-12-01 with total page 59 pages. Available in PDF, EPUB and Kindle. Book excerpt: The finance industry has grown, financial markets have become more liquid, and information technology allows arbitrageurs to trade faster than ever. But have market prices then become more informative? We use stock and bond prices to forecast earnings and find that the information content of market prices has not improved since 1960. We use a model with information acquisition and investment to link financial development, price informativeness, and allocational efficiency. As information costs fall, the predictable component of future earnings should rise and hence improve capital allocation and welfare. We find that this component has remained stable over the past 50 years. When we decompose price informativeness into real price efficiency and forecasting price efficiency, we find that both have remained stable.