Friday, Jan. 6, 2017 7:30 PM – 9:30 PM
- Chair: Jun Pan, Massachusetts Institute of Technology
Informed Trading and Option Prices: Evidence From Activist Trading
AbstractUsing a comprehensive sample of trades from Schedule 13D filings by activist investors, we show that both directional and volatility information is reflected in stock and option prices. Option prices reflect the adverse selection risk associated with the volatility component of private information rather than the directional component. We then study the role of informed trading in price discovery and find that activists choose to trade stocks and to not trade derivatives in about 98% of cases. When they use derivatives, they typically seek to increase their overall economic exposure to the stock. We find that on days when activists accumulate shares, option implied volatility decreases and volatility skew increases. We conclude that informed trading in the stock market contributes to the flow of volatility information into option prices.
Option-Based Credit Spreads
AbstractWe propose a non-parametric empirical benchmark for credit risk analysis. We build fictitious “pseudo firms” that purchase real traded assets by issuing equity and zero-coupon bonds. By no-arbitrage, these bonds equal Treasuries minus put options on the firms’ assets, whose values are all observable. We exploit our pseudo firms as a laboratory, and empirically show that their credit spreads are large and countercyclical, illiquidity and corporate frictions are unlikely determinants of bonds’ credit spreads, infrequent rating changes and idiosyncratic asset uncertainty greatly increase spreads, and, in a banking application, discount rate shocks substantially increase banks’ tail risks and default correlations.
- G1 - Asset Markets and Pricing