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Stock Options as Lotteries
Author(s) -
BOYER BRIAN H.,
VORKINK KEITH
Publication year - 2014
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/jofi.12152
Subject(s) - skewness , lottery , economics , ex ante , equity (law) , stock (firearms) , econometrics , financial economics , microeconomics , geography , political science , archaeology , law , macroeconomics
We investigate the relationship between ex ante total skewness and holding returns on individual equity options. Recent theoretical developments predict a negative relationship between total skewness and average returns, in contrast to the traditional view that only coskewness is priced. We find, consistent with recent theory, that total skewness exhibits a strong negative relationship with average option returns. Differences in average returns for option portfolios sorted on ex ante skewness range from 10% to 50% per week, even after controlling for risk. Our findings suggest that these large premiums compensate intermediaries for bearing unhedgeable risk when accommodating investor demand for lottery‐like options.