Publication Type

Working Paper

Version

publishedVersion

Publication Date

3-2011

Abstract

Underlying each stock trades hundreds of options at different strike prices and maturities. The order flows from these option transactions reveal important information about the underlying stock price. How to aggregate the trade information of different option contracts underlying the same stock presents an interesting and important question for developing microstructure theories and price discovery mechanisms in the derivatives markets. This paper takes options on QQQQ, the Nasdaq 100 tracking stock, as an example and examines different order flow consolidation mechanisms in terms of their effectiveness in extracting information about the underlying stock price and volatility movements. The analysis leads us to propose an aggregation weighting scheme that depends both on the liquidity of each option contract and the contract's risk exposure, delta for stock price movement information and vega for volatility movement information. Based on this weighting scheme, we identify significantly positive correlations between the aggregate option order flows and the realized returns and volatilities. In particular, the delta buy pressure positively predicts the underlying return and the vega buy pressure positively predicts the change of volatilities.

Keywords

Options order flow, information aggregation, delta, vega, lead-lag relations, price discovery, OPRA, QQQQ

Discipline

Finance and Financial Management | Portfolio and Security Analysis

Research Areas

Finance

First Page

1

Last Page

56

Identifier

10.2139/ssrn.1787407

Publisher

SSRN

Copyright Owner and License

Authors

Additional URL

https://doi.org/10.2139/ssrn.1787407

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