Do option markets substitute for stock markets? Evidence from trading on anticipated tender offer announcements

Are broad market shocks anticipated by investors? Evidence from major equity and index options markets

“…This pattern is similar for most markets in the sample and persistent for all three pre-event periods examined (10, 20, and 30 days), for both periods used to calculate the benchmark period trading volume (100 and 140 days), and of whether open interest is used instead of trading volume. This finding is consistent with previous results for single stocks and firm-specific information (Arnold et al, 2006;Cao et al, 2005;Jayaraman et al, 2001; among others) and with arguments that suggest a link between informed trading and option markets (see, Chakravarty et al, 2004;Easley et al, 1998;Pan & Poteshman, 2006; among others). Notes:…”

“…Similar results come from a related strand in the literature that examines whether informed trading takes place in the options market prior to corporate events such as Merger and Acquisition (M&A) announcements. More specifically, a common result is that market participants with material information are likely to start abnormal trading ahead of major takeover announcements, with the option market playing an important role in information revelation during this period (see also Arnold, Erwin, Nail, & Nixon, 2006;Cao, Chen, & Griffin, 2005). For example, as Jayaraman, Frye, and Sabherwal (2001) discuss, informed market participants that anticipate the arrival of information can employ a number of option strategies prior to the event and that, irrespective of the strategy, the implication is that option trading strategies that aim to take advantage of superior information will result to increased call and put trading volumes; they find a significant increase in the trading activity of both call and put option contracts for the firms involved in an M&A prior to the announcement.…”

Do option open-interest changes foreshadow future equity returns?

“…Cao et al (2005) find that higher preannouncement volume of call options portends increased takeover premiums for M&A targets, but they do not detect much information in option volumes at nonevent times. Arnold et al (2006) describe how, in the absence of an option market for an underlying stock, abnormal stock volume exists for target firms prior to cash tender offer announcements. However, when option markets are present for a firm, the volume effect of stock markets dissipates and the increased option volume emerges at an earlier point than the would-be uptick in stock volume (13 days prior to the tender offer, rather than 10 days in stock markets when no option markets exist).…”

Executive compensation and informed trading in acquiring firms around merger announcements

“…In addition, evidence suggests that traders who attempt to profit from M&A announcements tend to trade in the options market (see, for example, Cao et al, 2005;Arnold et al, 2006;Clements et al, 2007;Spyrou et al, 2011). Although most authors focus on ''abnormal trading activity'', Cao et al (2005) construct a measure of buyer-and seller-initiated volume prior to takeover announcements, using the former to identify presumably informed orders.…”