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The Price of Options Illiquidity
Author(s) -
Brenner Menachem,
Eldor Rafi,
Hauser Shmuel
Publication year - 2001
Publication title -
the journal of finance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 18.151
H-Index - 299
eISSN - 1540-6261
pISSN - 0022-1082
DOI - 10.1111/0022-1082.00346
Subject(s) - currency , maturity (psychological) , value (mathematics) , bidding , monetary economics , economics , exchange rate , business , financial economics , microeconomics , computer science , psychology , developmental psychology , machine learning
The purpose of this paper is to examine the effect of illiquidity on the value of currency options. We use a unique dataset that allows us to explore this issue in special circumstances where options are issued by a central bank and are not traded prior to maturity. The value of these options is compared to similar options traded on the exchange. We find that the nontradable options are priced about 21 percent less than the exchange‐traded options. This gap cannot be arbitraged away due to transactions costs and the risk that the exchange rate will change during the bidding process.