Does information drive trading in option strategies?

We study trading in option strategies in the FTSE-100 index market. Trades in option strategies represent around 37% of the total number of trades and over 75% of the total trading volume in our sample. We find some evidence that order flow in volatility–sensitive option strategies contains information about future realized volatility. We do not find evidence that order flow in directionally–sensitive option strategies contains information about future returns. Overall, our evidence suggests that option strategies are used both by traders who possess non-public information about future volatility and by uninformed speculators who appear to follow unprofitable trend chasing strategies.     

Does earnings acceleration convey information?

Valuation theory, investment managers, financial analysts, and textbooks advocating horizontal financial statement analysis suggest that the change in earnings growth (earnings acceleration) conveys value relevant information. We test this assertion using a large sample of U.S. firms. Results from cross-sectional short-window (around earnings announcements) and long-window (annual) returns-earnings regressions reveal a strong association between contemporaneous returns and earnings acceleration after controlling for earnings levels and changes. Moreover, earnings acceleration is useful in predicting future earnings, and financial analysts appear to use the information in earnings acceleration in addition to earnings levels and changes in revising their forecasts. Furthermore, earnings acceleration conveys information incremental to that provided by changes in analysts’ forecasts of long-term earnings growth. This study extends the empirical returns-earnings model that includes only earnings levels and changes and shows that more useful information can be extracted from reported earnings numbers than has been previously documented.     

Does vega-neutral options trading contain information?

This study suggests a novel approach for decomposing net options demands into the options order imbalances with and without volatility risk. By analyzing a high-frequency index futures and options dataset, we examine the information content of (i) the direction-motivated order imbalance induced by a single option type, which is exposed to volatility risk, and (ii) that constructed by both calls and puts, which is vega-neutral. The aggregate options order imbalance does not convey information after controlling for futures market trading. However, the intraday options order imbalance by trading without volatility risk significantly predicts spot index returns, though its longer-horizon forecasting ability is relatively weak because of a possible cross-market hedging effect. The predictive abilities of informed foreigners’ trades and out-of-the-money options trading are prominent. Our empirical results suggest that the vega-neutral options trading conveys additional information distinct from the futures order imbalance.     

Are executive stock option exercises driven by private information?

In this study, we investigate the extent to which exercise of executive stock options is based upon private information. Contrary to popular belief, we find that shares are held more than 30 days following over a quarter of options exercised. Partitioning the data, we find weak evidence that decisions to exercise and sell immediately are prompted by bad news and stronger evidence that decisions to exercise and hold for at least 30 days are prompted by good news. Enhancing the power of our tests by considering several factors important to exercise decisions, we find that the higher the opportunity costs of early exercise as measured by the time-value of options, the greater the trading profits to executives. We also find that the greater the disguise provided by incentives to diversify and consume as measured by the depth of options in the money, the greater the trading profits to executives who exercise and sell. Turning to non-exercise decisions, we find that a strategy of holding options rather than shares to exploit good news yields positive abnormal returns consistent with theoretical predictions in the absence of dividends.

Does more information in stock price lead to greater or smaller idiosyncratic return volatility?

We investigate the relation between price informativeness and idiosyncratic return volatility in a multi-asset, multi-period noisy rational expectations equilibrium. We show that the relation between price informativeness and idiosyncratic return volatility is either U-shaped or negative. Using several price informativeness measures, we empirically document a U-shaped relation between price informativeness and idiosyncratic return volatility. Our study therefore reconciles the opposing views in the following two strands of literature: (1) the growing body of research showing that firms with more informative stock prices have greater idiosyncratic return volatility, and (2) the studies arguing that more information in price reduces idiosyncratic return volatility.     

Does corporate eco-innovation affect stock price crash risk?

We examine the effect of corporate environmental innovation (hereafter eco-innovation) on stock price crash risk and document a significant negative association. Utilising a large sample of publicly listed U.S. firms for the period 2003 to 2017, we find that an increase in eco-innovation from the 25th to the 75th percentile is associated with 17.62% reduction in stock price crash risk. This outcome remains robust to a variety of sensitivity tests and after accounting for potential endogeneity concerns. Eco-innovative firms attract more institutional investors and equity analyst following and disclose more information leading to lower stock price crash risk. Additional tests reveal that the negative effect of eco-innovation is contingent on the political leadership's ideology and environmental sensitivity. Our paper contributes to the ongoing discourse on the costs and benefits of eco-innovation, documenting the value-enhancing perspective of eco-innovation.     

Do bond rating changes affect the information asymmetry of stock trading?

Using a sample of 279 upgrades and 310 downgrades from 1996 to 2004, we find that bond rating changes affect the information asymmetry of stock trading and other measures of information risk. Specifically, when a firm's bond rating is upgraded, its stock information asymmetry and its analysts' earnings forecast dispersion are significantly reduced, while the institutional equity holdings of its shares are significantly increased. The reverse is true for a downgrade. In addition, the degree of change in stock information asymmetry is positively associated with the magnitude of the bond rating changes.     

Does ESG matter to investors? ESG scores and the stock price response to new information

We examine how a third-party assessment of a firm's relative ESG attractiveness affects investor demand for the firm's equity in the presence of new information. Utilizing an event-study methodology, with credit-rating change events as proxies for new positive and negative information, we find evidence supporting a high ESG score as a significant factor in determining how investors respond to new positive information. Specifically, after controlling for relevant fixed effects, we find that the highest quartile of ESG scores amplifies the positive stock-price reaction to credit-rating upgrades by 130 basis points, providing evidence of confirmation bias.     

Margin trading and price efficiency: information content or price-adjustment speed?

The literature offers contradictory views on the effect of margin-trading activities on price efficiency. Based on data from a Chinese margin-trading pilot programme in 2010, we separate price efficiency into information content and price-adjustment speed and investigate the effect of margin-trading activity on price efficiency. We find that after adding to the eligible list, pilot stocks experience a decrease in information content, but an increase in price-adjustment speed. Furthermore, increased margin-buying activities are associated with lower information content, but faster price adjustment. Our results reconcile the debate over the effect of margin trading on price efficiency.     

Does long-term disequilibrium in stock price predict future returns?

We propose a trading strategy based on error correction term (ECT), the residuals from the cointegration relation between the levels of security and the market portfolio. We find that buying stocks in the top 10 % ECT and selling stocks in the bottom 10 % ECT generates 1.09 % a month for 6-month holding period over 1965–2005. The monthly return increases to 1.57 % when the above trading strategy is applied to stocks with insignificant cointegration with the market portfolio. This profit is robust to three and four factor models. Moreover, this profit is neither driven by small and illiquid stocks nor is the result of any inherent positive serial correlation.     

Does program trading contribute to excess comovement of stock returns?

Daily returns of stocks with high program trading comove more with each other but less with others. This significant comovement is disconnected with market movements and news of fundamentals and becomes stronger when market uncertainty is higher. It can be explained by neither the hypotheses of gradual information diffusion and liquidity provision nor the effects of quantitative trading signals, earnings announcements and index fund trading. Its non-fundamental nature is further demonstrated by the observation of program trading stimulating return reversals. Underlying this comovement is the high persistence of program trading. Our findings support the theory of habitat investing and demonstrate program trading creates a distinct source of excess return comovement.     

Bank ownership and stock price informativeness. Does politics matter?

This study investigates the effects of ownership on the informativeness of the stock prices of 636 commercial banks from 59 countries for 2002–2014. We find strong and robust evidence that state ownership is associated with stock prices having less information in developing countries. This result is consistent with the conjecture that state ownership is associated with a less transparent environment that discourages investors from trading on private information. Furthermore, we find that politics magnifies the effect of state ownership on the informativeness of stock prices during election years. In particular, we show that stock prices are less informative for state ownership in countries with civil law or parliamentary systems. These findings shows that the political channel plays an important role in determining the expropriation by government shareholders, especially in developing countries.     

Does insider trading have information content for the bond market?

This study documents that there is significant information content in stock trading by registered corporate insiders for the bond market. We report significant positive price reactions for convertible and straight bonds in response to the Wall Street Journal's Insider Trading Spotlight publication of insider buy transactions and significant negative reactions for insider sell transactions. The stock market response to the publication of the insider transactions, although weaker than the bond market reaction, is also found to be significant. Cross-sectional results suggest that bond market participants extract the quality of the insider-trading signal by observing factors such as the dollar volume of the trade, the percentage change in the holding of the insider, and the insider's position in the firm. Lower-rated (riskier) bonds are found to be more sensitive to the information than higher-rated issues. The empirical evidence presented in this paper suggests that the absence of any reporting requirement for insider bond transactions may create aan enhanced opportunity for the insiders to exploit private information to expropriate wealth from uninformed bond traders.     

Does futures trading increase stock market volatility? The case of the Nikkei stock index futures markets

We propose new tests to examine whether stock index futures affect stock market volatility. These tests decompose spot portfolio volatility into the cross-sectional dispersion and the average volatility of returns on the portfolio's constituent securities. Our tests show that for Nikkei stocks spot portfolio volatility increased and cross-sectional dispersion decreased compared with average volatility when Nikkei futures began trading on the Osaka Securities Exchange, but not on the Singapore International Monetary Exchange. For non-Nikkei stocks, no shift occurred when futures trading began on either exchange. These findings are consistent with the hypotheses that futures trading increases spot portfolio volatility but that there is no volatility “spillover” to stocks against which futures are not traded. However, the increase in volatility attributable to futures trading is small compared with volatility shifts induced by changes in broad economic factors.     

What determines stock option contract design?

We analyze the factors that drive exercise price policy for executive option plans (ESOPs) and their scope in a country where firms are not subject to the tax and accounting considerations that seem to have led to the dominance of at-the-money options in the US Our “unbounded” data for Finland provide us with an excellent opportunity to investigate whether contract design is consistent with compensation theory. Our findings are largely consistent with predictions from the optimal contracting literature. The size of the plan is negatively related to Tobin's Q and firm size and positively related to proxies for monitoring costs, which also influence the probability of launching premium ESOPs. Our results also show that the premium (out-of-the-moneyness) is negatively related to prior stock returns and cash flow-to-assets, which may be an indication of high-water mark contracting, or alternatively, of managerial power. Finally, we also find some support for a positive relation between the premium and the length of the vesting period when maturity is fixed, which indicates an effort to keep the incentives for management from falling over time.     

Does information vault Niagara Falls? Cross-listed trading in New York and Toronto

We document differential private information in cross-border asset pricing using the probability of informed trading (PIN) for Canadian shares traded on both sides of Niagara Falls. Relative to the New York Stock Exchange (NYSE), the Toronto Stock Exchange (TSX) has more informed trades and a larger information share. This cross-border information imbalance is associated with small but positive price premiums in New York as predicted by a model. The dynamics of these premiums depends on trade informativeness. Lastly, the PIN for TSX trading typically rises upon cross-listing on the NYSE, which is consistent with the negative event-study response.     

Does online interaction between firms and investors reduce stock price crash risk?

This paper examines how online interaction between firm management and investors impacts stock price crash risk. Based on the previous literature, we postulate that online interaction constrains crash risk via two channels, i.e., deterring bad news hoarding activities of managers and decreasing differences of opinion among investors. Relying on the launch of Hudongyi (the first official investor relations management platform in the world) for identification, we demonstrate that online firm-investor interaction significantly reduces future stock price crash risk and that these two channels can both explain this effect. Overall, our findings highlight the important role of online interaction in risk management.     

Does insider trading explain price run‐up ahead of takeover announcements?

This study empirically examines the impact of changes in substantial shareholdings ahead of 450 Australian takeover offers between the years 2000 and 2009. Previous studies have attributed a significant proportion of the price run‐up effect in takeover targets to insider‐trading behaviour. This study examines the contribution of a broad range of public information sources that are known to typically generate market anticipation, including the acquisition of toeholds ahead of takeover announcements. Our findings show no significant pre‐bid run‐up for takeover targets after considering these sources. We conclude from these results that previous findings attributing pre‐bid share price run‐up to illegal insider trading may overstate the existence of such conduct.     

Does the stock market affect firm investment in China? A price informativeness perspective

This paper investigates the empirical relationship between firm-level investment and the stock market in China from a price informativeness perspective. We find that firm investment does not significantly respond to the stock market valuation, because stock prices contain very little extra information about the future operating performance of firms. This finding is further supported by the relative investment response test and the relative price information content test based on the informativeness proxy of price non-synchronicity combined with firm information transparency.     

Does stock market index adjustment affect environmental information disclosure? Evidence from China

This study empirically investigated the effect of adjustment of the China Securities Index 300 (CSI 300) on environmental information disclosure (EID) by index constituents, based on propensity score matching and difference-in-difference approaches. The results showed that the inclusion in the CSI 300 significantly improved the quality of EID by firms. Moreover, this positive impact was more pronounced among firms with lower agency costs and those located in regions with a stronger legal environment. Further testing of the mediating mechanism revealed that becoming an index constituent served to curb opportunistic behavior by managers arising from shortsightedness. Our results were valid after addressing the potential endogeneity between index adjustment and EID and remained unchanged in various other robustness tests. The findings provide support for the positive impact of stock market index adjustment on non-financial information disclosure and have practical implications for decision-making regarding EID in China and other emerging markets.