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• W3122849000 abstract "ABTRACTWe investigate bank stock and option transmissions during the financial crisis in 2008. Contemporaneous and lagged-one stock order imbalances have a significant impact on option returns. A time-varying GARCH model is employed to confirm the results. We develop an imbalance-based call (put) trading strategy that buys the call (put) if the previous day's stock imbalance is positive, and sells the stock if the previous day's stock imbalance is negative. The empirical results do not show a positive premium, which implies market efficiency between option and stock markets in financial crisis.JEL: G01, G14, G21KEYWORDS: Order Imbalance, Market Efficiency, Investment Bank, Commercial Bank, Financial Crisis, Option(ProQuest: ... denotes formulae omitted.)INTRODUCTIONIn 2008, the subprime crisis in U.S. spilled over and became the catalyst for a much broader global financial crisis. Intervention by the Treasury and the Federal Reserve in the financial markets was intend to avoid broader spillovers to other markets and sectors of the economy. An extensive literature about financial contagion in financial crisis examines the consequences for cross-nation contagion (e.g. Aloui et al., 2011; Baur, 2012). Less is known about the spillovers from stock markets to option markets in U.S. Because the financial sector is most vulnerable and subject to inside information during financial crisis, we examine the transmission from stock markets to option markets in U.S. banking sector around the financial crisis. That is, we use daily data of the financial sector in the U.S. during financial crisis in 2008 to examine the market efficiency between option and stock markets.Choy and Wei (2012) argue that abnormal option turnovers and abnormal stock returns are significantly related (positively for calls and negatively for puts) around earnings announcements. Once they control for pre-announcement returns, the pre-announcement turnovers no longer predicts post-announcement returns. Hence, option trading doesn't appear to be driven by information around earnings announcements. Nevertheless, Hu (2014) decompose stock order imbalance into the option-induced imbalance and the imbalance independent of option trading activities. He finds that stock exposure imbalance induced by option transactions has strong predictive power of stock returns, while the independent stock order imbalance has a transitory price impact but shows no significant predictive ability for stock returns on the next day. We further explore whether the stock order imbalance has influence on option returns.Lamoureux and Lastrapes (1990) employ a time-varying Autoregressive Conditional Heteroskedasticity (ARCH) model to test the relation between daily stock returns and trading volume and show that trading volume is a significant explanatory variable on the variance of daily returns. Gallant et al. (1992) shows that correlation between conditional volatility and volume is positive. Moreover, larger price movements are followed by higher trading volumes. Thus, we use a GARCH model to examine the relation between volatility, order imbalance, and return around financial crisis.We find that contemporaneous stock imbalances have a significant impact on option returns, and laggedone imbalances also have a significantly positive impact on call but not on put. Conditional on contemporaneous imbalance, the impact of lagged-one imbalance on call return is still positive. Employing a time-varying GARCH model based on the argument of a volatile market in financial crisis, we find that volatility plays an important role in the return-order imbalance relation. Moreover, we develop an imbalance-based call (put) trading strategy that buys the call (put) if the previous day's stock imbalance is positive, and sells the stock if the previous day's stock imbalance is negative. This trading strategy does not outperform the original buy and hold return. …" @default.
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• W3122849000 date "2015-09-01" @default.
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• W3122849000 title "Bank Stock and Option Transmissions in Financial Crisis" @default.
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