The bright side of financial derivatives: Options trading and firm innovation

Abstract

Do financial derivatives enhance or impede innovation? We aim to answer this question by examining the relationship between equity options markets and standard measures of firm innovation. Our baseline results show that firms with more options trading activity generate more patents and patent citations per dollar of R&D invested. We then investigate how more active options markets affect firms' innovation strategy. Our results suggest that firms with greater trading activity pursue a more creative, diverse and risky innovation strategy. We discuss potential underlying mechanisms and show that options appear to mitigate managerial career concerns that would induce managers to take actions that boost short-term performance measures. Finally, using several econometric specifications that try to account for the potential endogeneity of options trading, we argue that the positive effect of options trading on firm innovation is causal.

Berbahayakah Instrumen Derivatif Dalam Konteks Akuntansi?

“…Prinsip saling mengompensasi lin dung nilai. Penggunaan instrumen derivatif sebagai sarana untuk lindung nilai jika dirancang dengan benar pada dasarnya dapat mengompensasi kerugian yang terjadi pada transaksi/item yang dilindungi (Abdel-Khalik & Chen, 2015;Blanco & Wehrheim, 2017;Li, 2017). Prinsip saling kompensasi dalam instrumen derivatif terjadi karena penerapan fair value.…”

The Role of Option Markets in Shareholder Activism

“…To mitigate concerns related to reverse-causality issues, I estimate an instrumental variable analysis via a two-staged least squares (2SLS) model. I use open interest and moneyness as instrumental variables (Roll, Schwartz, and Subrahmanyam, 2009;Blanco and Wehrheim, 2017;Blanco and García, 2017). The results from this identification strategy provide support to the notion of a significant causality running from more liquid option markets to subsequent shareholder activism in the form of proxy contest, shareholder proposal, and dissent voting with management.…”

“…I start by recognizing that any effect of option markets on corporate governance practices must go beyond the mere existence of a market and, rather, should be related to whether such market has sufficient volume, as incentives for informed agents to trade are higher in high-volume markets (Pagano, 1989;Admati and Pfleiderer, 1988). Consequently, I follow previous literature (Roll, Schwartz, and Subrahmanyam, 2009;Blanco and Wehrheim, 2017;Blanco and García, 2017) to define a continuous variable for option trading volume. Specifically, I construct the total annual dollar options volume for a firm by multiplying the total trade in each option by the end-of-day quote midpoint for that option and aggregate this number annually across all trading days and all options listed on the stock.…”

“…First, I add to recent work on how trading activity in options market affects corporate outcomes. The informational enhancement associated with more active option markets has been shown to lead to greater firm values (Roll, Schwartz, and Subrahmanyam, 2009), lower cost of equity financing (Naiker, Navissi, and Truong, 2013), or higher innovation quality (Blanco and Wehrheim, 2017). Additionally, Blanco and García (2017) find that more active option markets encourage shareholder decisions that are detrimental to bondholders' wealth, thus incresing the firm's cost of debt financing.…”

Does Administrative Approval Impede Low-Quality Innovation? Evidence from Chinese Manufacturing Firms

“…Innovation metrics are likely to be autocorrelated over time. Thus, all of our models will allow the standard errors to have arbitrary heteroskedasticity and autocorrelation by clustering standard errors at firm level [47]. The descriptive statistics of the main variables are presented in Table A2.…”