ABSTRACT

Sahlström Petri (2000). The effects of stock derivative markets on the underlying stock market: A study of the option markets using Finnish market as a laboratory. Acta Wasaensia No. 79, 132 p.

This thesis investigates how stock option listings affect the underlying stock market. The theoretical analysis is made in the framework of market efficiency. The effects of option listing on the market's allocational, operational, and informational efficiency are investigated. The analysis suggests that the underlying market's efficiency increases due to option listing. The empirical analysis with data from Finnish stock and options markets confirms the theoretical hypotheses. Option introduction leads to lower volatility, bid-ask spread, and first order autocorrelation in the stocks' return series. Concerning option trading effects, the evidence suggests that option trading volume is higher around days when volatility is unusually high. Furthermore, the evidence does not support the destabilising effect of option trading. The evidence on the informational role of option prices suggests that implied volatility can be used to model temporal risk variation of a stock around earnings announcement. The observed properties of implied volatility are used to develop a model to measure abnormal stock returns around anticipated information releases, such as earnings announcements. In general, the results suggest that the stock options have an important role in financial markets.

Petri Sahlström, Department of Accounting and Finance, Graduate School of Finance and Financial Accounting, University of Vaasa, Wolffintie 34, FIN-65100 Vaasa, Finland

Key words: stock option, option effects, efficiency, volatility, bid-ask spread, implied volatility, risk, earnings