Is investor misreaction economically significant? Evidence from short‐ and long‐term S&P 500 index options

Charles Cao, Haitao Li and Fan Yu

Journal of Futures Markets, 2005, vol. 25, issue 8, 717-752

Abstract: Several recent studies present evidence of investor misreaction in the options market. Although the interpretation of their results is still controversial, the important question of economic significance has not been fully addressed. Here this gap is addressed by formulating regression‐based tests to identify misreaction and its duration and constructing trading strategies to exploit the empirical patterns of misreaction. Regular S&P 500 index options and long‐dated S&P 500 LEAPS are used to find an underreaction that on average dissipates over the course of 3 trading days and an increasing misreaction that peaks after four consecutive daily variance shocks of the same sign. Option trading strategies based on these findings produce economically significant abnormal returns in the range of 1–3% per day. However, they are not profitable in the presence of transaction costs. © 2005 Wiley Periodicals, Inc. Jrl Fut Mark 25:717–752, 2005

Date: 2005
References: Add references at CitEc
Citations: View citations in EconPapers (5)

Downloads: (external link)
http://hdl.handle.net/

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:wly:jfutmk:v:25:y:2005:i:8:p:717-752

Ordering information: This journal article can be ordered from
http://www.blackwell ... bs.asp?ref=0270-7314

Access Statistics for this article

Journal of Futures Markets is currently edited by Robert I. Webb

More articles in Journal of Futures Markets from John Wiley & Sons, Ltd.
Bibliographic data for series maintained by Wiley Content Delivery ().