The Effect of Options on Stock Prices: 1973 to 1995

Authors

  • Sorin M. Sorescu

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    • Assistant Professor of Finance, University of Houston. This paper is based on my Ph.D. dissertation at the University of Florida. I am indebted to Mark Flannery for many patient and helpful discussions. I owe special thanks to Bartley Danielsen, René Stulz, and an anonymous referee. Useful suggestions were provided by David T. Brown, David Ikenberry, Praveen Kumar, Bong-Soo Lee, Mahendrarajah Nimalendran, Jay Ritter, Subu Venkataraman, and Arthur Warga, as well as seminar participants at the University of Houston, the Federal Reserve Bank of Chicago, Rutgers University, the University of Wisconsin–Milwaukee, Michigan State University, Hofstra University, Concordia University, and York University. The dataset in my dissertation consists of options listed during 1973 to 1992. Information about options listed from 1993 to 1995 was generously provided by Bartley Danielsen. Financial support from the Social Sciences and Humanities Research Council of Canada is greatly appreciated.

Abstract

I show that the effect of option introductions on underlying stock prices is best described by a two-regime switching means model whose optimal switch date occurs in 1981. In accordance with previous studies, I find positive abnormal returns for options listed during 1973 to 1980. By contrast, I find negative abnormal returns for options listed in 1981 and later. Possible causes for this switch include the introduction of index options in 1982, the implementation of regulatory changes in 1981, and the possibility that options expedite the dissemination of negative information.

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