Are Mispricings Long-Lasting or Short-Lived? Evidence from S & P 500 Index ETF Options
- 1 University of Lethbridge, Calgary, Canada
Abstract
A rapidly growing literature has documented evidences suggesting the mispricing of options. Building on recent results of option pricing bounds imposed by stochastic dominance, this paper examines the time-series proprieties of such mispricing. In an application to high-frequency bid/ask quotes of S & P 500 index ETF options, this paper provide s evidences that most violations of the stochastic dominance bounds last no more than 10 trading hours. The typical duration of mispricing is even shorter for near to maturity options. The results imply that the observed widespread mispricing in options might be the result of temporary inefficiency (e.g. transaction costs, overreaction, liquidity etc.) rather than a model misspecification, such as estimation biases of the parameters, or an overlooked persistent risk factor.
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