AN EMPIRICAL ANALYSIS OF OPTION PRICING WITH SHORT SELL BANS

Mesias Alfeus (), Xin-Jiang He and Song-Ping Zhu ()
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Mesias Alfeus: Department of Statistics and Actuarial Science, University of Stellenbosch, South Africa
Xin-Jiang He: ��School of Economics, Zhejiang University of Technology, Hangzhou, P. R. China
Song-Ping Zhu: ��School of Mathematics and Applied Statistics, University of Wollongong, New South Wales 2522, Australia

International Journal of Theoretical and Applied Finance (IJTAF), 2022, vol. 25, issue 03, 1-26

Abstract: Short sell bans are often imposed during a financial crisis as a desperate measure to stabilize financial markets. Yet, the impact of short sell bans on option pricing and hedging is not well studied, at least quantitatively, until very recently when Guo & Zhu [(2017) Equal risk pricing under convex trading constraints, Journal of Economic Dynamics and Control 76, 136–151] and He & Zhu [(2020) A revised option pricing formula with the underlying being banned from short selling, Quantitative Finance 20 (6), 935–948] formulated a new pricing framework with the underlying being either completely or partially banned from short selling. However, no empirical results were provided to substantiate the usefulness of the formulae, as well as to deepen our understanding on the effects of short sell bans. This paper provides a comprehensive empirical study on the effects of short sell bans to the standard option pricing theory by carrying out both cross-sectional and options time series model calibration of the model devised by He & Zhu (2020) [A revised option pricing formula with the underlying being banned from short selling, Quantitative Finance 20 (6), 935–948]. Overall, our empirical results indicate that the alternative option pricing formula considering short sell restrictions has the ability to capture highly-quoted implied volatility, with an evident improvement of 39% out-of-sample performance compared to the benchmark Black–Scholes model during the period of short sell ban.

Keywords: Option pricing; short sell ban; calibration; S&P/ASX 200 index; out-of-sample (search for similar items in EconPapers)
Date: 2022
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DOI: 10.1142/S0219024922500121

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