Review of Quantitative Finance and Accounting

, Volume 17, Issue 3, pp 267–282 | Cite as

Option Trading and the Intervalling Effect Bias in Beta

  • Li-Chin Jennifer Ho
  • Jeffrey J. Tsay

Abstract

Prior studies show that the beta coefficient of a security changes systematically as the length of measurement interval is varied. This phenomenon, which is called the intervalling effect bias in beta, has been attributed to the friction in the trading system that causes the delays in the price-adjustment process. This study shows that option listing is associated with a decline in the beta intervalling effect bias. The decline is most pronounced for small firms. We also find that our sample firms grow significantly after option listing. Since prior research indicates that market value is a major determinant of the magnitude of the intervalling effect, we re-examine our results using a subsample that controls for market value. The results indicate that the decline in the beta bias from the pre-listing to post-listing period is still prevalent after we control for the change in firm size. Overall, the evidence is consistent with the notion that option trading reduces the delays in the price-adjustment process, which in turn reduces the intervalling effect bias in beta.

option trading beta estimation intervalling effect bias 

Preview

Unable to display preview. Download preview PDF.

Unable to display preview. Download preview PDF.

References

  1. Black, F., “Fact and Fantasy in the Use of Options.” Financial Analysts Journal 31, 36–41, 61–72, (1975).Google Scholar
  2. Breeden, D. and R. Litzenberger, “Prices of State-Contingent Claims Implicit in Option Prices.” Journal of Business 51, 621–652, (1978).Google Scholar
  3. Cohen, K., G. S. Maier, R. Schwartz and D. Whitcomb, “Friction in the Trading Process and the Estimation of Systematic Risk.” Journal of Financial Economics 12, 263–278, (1983a).Google Scholar
  4. Cohen, K., G. Hawawini, S. Maier, R. Schwartz and D. Whitcomb, “Estimating and Adjusting for the Intervalling Effect Bias in Beta.” Management Science 29, 135–148, (1983b).Google Scholar
  5. Conrad, J., “The Price Effect of Option Introduction.” Journal of Finance 44, 487–498, (1989).Google Scholar
  6. Corhay, A., “The Intervalling Effect Bias in Beta: A Note.” Journal of Banking and Finance 16, 61–73, (1992).Google Scholar
  7. Cox, J. and M. Rubinstein, Options Markets, Englewood Cliffs, NJ: Prentice Hall, 1985.Google Scholar
  8. Diamond, D. and R. Verrecchia, “Constraints on Short-Selling and Asset Price Adjustment to Private Information.” Journal of Financial Economics 18, 277–311, (1987).Google Scholar
  9. Easley, D., M. O'Hara and P. S. Srinivas, “Option Volume and Stock Prices: Evidence on Where Informed Traders Trade.” Journal of Finance 53, 431–465, (1998).Google Scholar
  10. Figlewski, S. and G. Webb, “Options, Short Sales, and Market Completeness.” Journal of Finance 48, 761–777, (1993).Google Scholar
  11. Fung, W., R. Schwartz and D. Whitcomb, “Adjusting for the Intervalling Effect Bias in Beta.” Journal of Banking and Finance 9, 443–460, (1985).Google Scholar
  12. Grossman, S., The Informational Role of Prices, Cambridge, Massachusetts: The MIT Press, 1989.Google Scholar
  13. Hawawini, G., “Intertemporal Cross Dependence in Securities' Daily Returns and the Short-Run Intervalling Effect on Systematic Risk.” Journal of Financial and Quantitative Analysis 15, 139–150, (1980).Google Scholar
  14. Ho, L., “Option Trading and the Relation Between Price and Earnings: A Cross-Sectional Analysis.” The Accounting Review 68, 368–384, (1993).Google Scholar
  15. Jennings, R. and L. Starks, “Earnings Announcements, Stock Price Adjustment, and Existence of Option Markets.” Journal of Finance 41, 107–125, (1986).Google Scholar
  16. Kim, S. and D. Diltz, “The Effect of Option Trading on the Structure of Equity Bid/Ask Spreads.” Review of Quantitative Finance and Accounting 12, 395–413, (1999).Google Scholar
  17. Kumar, R., A. Sarin and K. Shastri, “The Impact of Options Trading on the Market Quality of the Underlying Security: An Empirical Analysis.” Journal of Finance 53, 717–732, (1998).Google Scholar
  18. Manaster, S. and R. Rendleman, “Option Prices as Predictors of Equilibrium Stock Prices.” Journal of Finance 37, 1043–1057, (1982).Google Scholar
  19. Pogue, G. and B. Solnik, “The Market Model Applied to European Common Stocks: Some Empirical Results.” Journal of Financial and Quantitative Analysis 9, 917–944, (1974).Google Scholar
  20. Ross, S., “Options and Efficiency.” Quarterly Journal of Economics 90, 75–89, (1976).Google Scholar
  21. Scholes, M. and J. Williams, “Estimating Beta from Non-Synchronous Data.” Journal of Financial Economics 5, 309–327, (1977).Google Scholar
  22. Skinner, D., “Option Markets and the Information Content of Accounting Earnings Releases.” Journal of Accounting and Economics 13, 191–211, (1990).Google Scholar

Copyright information

© Kluwer Academic Publishers 2001

Authors and Affiliations

  • Li-Chin Jennifer Ho
    • 1
  • Jeffrey J. Tsay
    • 1
  1. 1.University of Texas at ArlingtonUSA

Personalised recommendations