Published in:Johnson School Research Paper Series ; No. 14-2013
Extent:
1 Online-Ressource (61 p)
Language:
English
DOI:
10.2139/ssrn.2264261
Identifier:
Origination:
Footnote:
Nach Informationen von SSRN wurde die ursprüngliche Fassung des Dokuments May 31, 2017 erstellt
Description:
This paper documents the fact that in options markets, the (percentage) implied volatility bid-ask spread increases at an increasing rate as the option's maturity date approaches. To explain this stylized fact, this paper provides a market microstructure model for the bid-ask spread in options markets. We first construct a static equilibrium model to illustrate the aforementioned phenomenon where risk averse and competitive option market makers quote bid and ask prices to minimize their inventory risk in an incomplete market with both directional and volatility risk. We extend this model to multi-periods and show that the same phenomenon occurs there as well. Two new implications are generated: a volatility level effect and a volatility variance effect. These implications are empirically tested, and the empirical results confirm the model's validity. Finally, we document the importance of de-trending the maturity effect by showing that the de-trended percentage volatility spread explains future jump intensities better than the original percentage volatility spread