Measuring Pricing Inefficiencies Under Stressful Market Conditions

Louis Cheng and Jay White

Journal of Business Finance & Accounting, 2003, vol. 30, issue 3‐4, 383-411

Abstract: This study examines the mispricing and time between arbitrage trades of the Hong Kong Hang Seng index futures and index options contracts under various stressed market conditions. Ex‐ante trading profits and differences in time between trades across up and down as well as stressed and non‐stressed markets are used to measure how well the derivative markets perform under emotional distress. We find evidence of illiquidity in stressed and down markets. In stressful markets and down markets, liquidity suppliers are less likely to trade against the informed traders. This, in turn, leads to longer time between trades and higher arbitrage profits.

Date: 2003
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