An Analysis of the Implications for Stock and Futures Price Volatility of Program Trading and Dynamic Hedging Strategies

Sanford Grossman

The Journal of Business, 1988, vol. 61, issue 3, 275-98

Abstract: The notion that a real security is redundant when it can be synthesized by a dynamic trading strategy ignores the informati onal role of real securities markets. Portfolio insurance uses a dyna mic strategy to synthesize a European put. The absence of trading in an appropriate real put option prevents the transmittal of informatio n to market participants about the future price volatility associated with current dynamic hedging strategies. Less information is transmi tted to potential liquidity providers. It will, therefore, be more di fficult for the market to absorb the trades implied by the dynamic he dging strategies, and the stocks' future price volatility will rise. Copyright 1988 by the University of Chicago.

Date: 1988
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Working Paper: An Analysis of the Implications for Stock and Futures Price Volatility of Program Trading and Dynamic Hedging Strategies (1987)
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