Box Spread Arbitrage Profits following the 1987 Market Crash: Real or Illusory?

Hemler, Michael L.; Miller, Thomas W.

doi:10.2307/2331317

Cited by 23 publications

(31 citation statements)

References 12 publications

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“…This spread has the advantage that market efficiency implies strict bounds on its value regardless of the option pricing model. Consequently, box spreads have been used to test for market efficiency and arbitrage possibilities by Billingsley and Chance (1985), Ronn and Ronn (1989) and Hemler and Miller (1997).…”

Section: Option Spreads and Combinationsmentioning

confidence: 99%

Option Spread and Combination Trading

Chaput¹,

Ederington

2003

JOD

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Documenting spread and combination trading in a major options market for the first time, we find that spreads and combinations collectively account for over 55% of large trades (trades of 100 contracts or more) in the Eurodollar options market and almost 75% of the trading volume due to large trades. In terms of total volume, the four most heavily traded combinations are (in order): straddles, ratio spreads, vertical spreads, and strangles. These four represent about two thirds of all combination trades. On the other hand, condors, horizontal spreads, guts, iron flys , box spreads, guts, covered calls or puts, and synthetics are very rarely traded while trading is light in collars, diagonal spreads, butterflies, straddle spreads, seagulls, doubles, and delta-neutral combinations. Significant differences in size, cost, and time-to-expirations are found among the various combination types.Our results confirm that traders use spreads and combinations to construct portfolios which are highly sensitive to some risk factors and much less sensitive to other risk factors.The most popular combination designs are those yielding portfolios which are quite sensitive to volatility and less sensitive to directional changes in the underlying asset value -though they are often not completely delta neutral. Among these, combinations which are short volatility significantly out-number those which were long. Among the minority of combinations which are highly sensitive to the underlying asset price, those with positive deltas significantly outnumber those with negative deltas indicating that traders are using this market to bet on or hedge against an increase in the LIBOR rate.We find evidence that effective bid/ask spreads are larger on orders exceeding 500 contracts or more than on orders of between 100 and 500 contracts and evidence that effective bid/ask spreads are larger on combinations which short volatility.

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Section: Option Spreads and Combinationsmentioning

confidence: 99%

Option Spread and Combination Trading

Chaput¹,

Ederington

2003

JOD

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“…Persistence of mispricing was found to be 3 weeks after the crash. Hemler and Miller (1997) found a substantial increase in profit opportunities post crash compared to pre crash period, i.e. they found significant arbitrage opportunities for S&P 500 European options post-crash of October 1987.…”

Section: Literature Reviewmentioning

confidence: 93%

“…Even this study made use of American options which can be exercised early. Hemler and Miller (1997) in their study examined the efficiency of European style S&P 500 Index options traded on the Chicago Board Options Exchange (CBOE). Their main aim was to investigate the effect of October 1987 stock market crash on market efficiency of CBOE by making use of Box Spread Strategy.…”

Section: Literature Reviewmentioning

confidence: 99%

“…As seen from section 2, literature on the efficiency of Index options has mostly been studied for: US Markets [i.e. Billingsley and Chance (1985) for U.S Stock Options market, Ronn and Ronn (1989) for CBOE options, Marchand et al (1994) for S&P 500 Futures Options, Hemler and Miller (1997) for S&P 500 Index options of CBOE, Ackert and Tian (2001) for CBOT, Evnine and Rudd (1985) and Kamara and (Miller1995) Computerized trading allows the traders to identify and execute arbitrage opportunities with greater ease and speed and lower transaction costs (using computer programs); f) Transaction costs are comparatively less for arbitrageurs due to order-driven trading mechanism and cash settlement of derivatives. But, ban on short sales in the cash market of NSE India, would affect the efficiency negatively.…”

Section: Motivation For the Studymentioning

confidence: 99%

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Efficiency of S&P CNX Nifty Index Option of the National Stock Exchange (NSE), India, using Box Spread Arbitrage Strategy

Girish

Rastogi

2014

GADJAH MADA INT. J. BUS.

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Box spread is a trading strategy in which one simultaneously buys and sells options having the same underlying asset and time to expiration, but different exercise prices. This study examined the efficiency of European style S&P CNX Nifty Index options of National Stock Exchange, (NSE) India by making use of high-frequency data on put and call options written on Nifty (Time-stamped transactions data) for the time period between 1 st January 2002 and 31 st December 2005 using box-spread arbitrage strategy. The advantages of box-spreads include reduced joint hypothesis problem since there is no consideration of pricing model or market equilibrium, no consideration of inter-market non-synchronicity since trading box spreads involve only one market, computational simplicity with less chances of misspecification error, estimation error and the fact that buying and selling box spreads more or less replicates risk-free lending and borrowing. One thousand three hundreds and fifty eight exercisable boxspreads were found for the time period considered of which 78 Box spreads were found to be profitable after incorporating transaction costs (32 profitable box spreads were identified for the year 2002, 19 in 2003, 14 in 2004 and 13 in 2005) The results of our study suggest that internal option market efficiency has improved over the years for S&P CNX Nifty Index options of NSE India. Abstrak:Box spread adalah strategi trading dimana seseorang dapat secara simultan membeli dan menjual option yang memiliki dasar aset dan waktu berakhir yang sama, namun dengan harga latihan yang berbeda. Penelitian ini menguji efisiensi gaya Eropa S&P CNX Nifty Index Option pada Bursa Efek Nasional di India dengan memanfaatkan data frekuensi tinggi pada put dan call option yang tertulis di Nifty (data transaksi cap waktu) untuk periode antara 1 Januari sampai 1 Desember 2005 dengan menggunakan strategi arbritase box spread. Keuntungan dari box spread adalah berkurangnya masalah hipotesis gabungan karena tidak ada pertimbangan atas model harga atau ekuilibrium pasar modal, tidak ada pertimbangan atas non-sinkronitas antarpasar modal karena box spread perdagangan hanya meliputi satu pasar modal, kemudahan komputasional dengan berkurangnya kesalahan spesifikasi, kesalahan estimasi, dan fakta bahwa pembelian dan penjualan box spread kurang lebih menggandakan pinjam-meminjam yang bebas resiko. Sebanyak 1358 box spread ditemukan dan sebanyak 78 box spread dianggap menguntungkan setelah Acknowledgement

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“…Because the sample in this study was from a time period after the 10-up rule was instituted, one can be confident that the quotes in this study sample were sound. Hemler and Miller (1997) examined this critical assumption in a sample before the 10-up rule was instituted. They reported that before the rule was passed, the CBOE encouraged, but did not legally require, market markers to stand by their quotes for one to five contracts.…”

Section: Liquidity Proxy Definitionsmentioning

confidence: 99%