Synthetic forwards and cost of funding in the equity derivative market

Michele Azzone and Roberto Baviera

Papers from arXiv.org

Abstract: This study introduces a new technique to recover the implicit discount factor in the derivative market using only European put and call prices: this discount is grounded in actual transactions in active markets. Moreover, this study identifies the implied cost of funding, over OIS, of major market players. Does a liquid equity market allow arbitrage? The key idea is that the (unique) forward contract -- built using the put-call parity relation -- contains information about the market discount factor: by no-arbitrage conditions we identify the implicit interest rate such that the forward contract value does not depend on the strike. The procedure is applied to options on S&P 500 and EURO STOXX 50 indices. There is statistical evidence that, in the EURO STOXX 50 market, the implicit interest rate curve coincides with the EUR OIS one, while, in the S&P 500 market, a cost of funding of, on average, 34 basis points is added on top of the USD OIS curve.

Date: 2020-11, Revised 2022-01
New Economics Papers: this item is included in nep-fmk
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Published in Finance Research Letters Volume 41, July 2021, 101841

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Persistent link: https://EconPapers.repec.org/RePEc:arx:papers:2011.03795

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