3: "The Rise of Off-Exchange Trading and Its Impact on Price Discovery" with Pankaj K. Jain, Zhaoque(Chosen) Zhou, October 2024, [PDF]
Abstract: We examine intraday factors associated with the big rise in off-exchange trading volume, information share, and price discovery from 2008 to 2022. We theoretically model and empirically identify informed traders’ cost-based choice of off-exchange stealth trading venues, where they can avoid high predicted quoted spreads for stocks (forecasted by options activity) particularly for optionable stocks. This relation persists despite headwinds from option expiration settlement rules that drive up on-exchange volumes. Our findings hold across traditional and machine learning methods of identifying informed trader intensity and surge around earnings announcements. Off exchange information also predicts higher subsequent stock price volatility.
Presentations: NYSE Microstructure Meets with AI 2024; Bentley University ; University of Mississippi (Ole Miss); EFA 2024; FMA 2024
2: "A Market Maker of Two Markets: The Role of Options in ETF Arbitrage" with Rabih Moussawi, Zhaoque(Chosen) Zhou, December 2024, [PDF]
Abstract: As major market makers provide liquidity in both ETF and options markets, this paper explores a new dimension of intraday ETF arbitrage using options. By focusing on the most liquid ETF, the S&P 500 ETF (SPY), and a proxy for a derivative hedge that is tied to the underlying basket, the S&P 500 index options (SPX), we study how market makers execute intraday arbitrage trades following ETF order flow shocks. We examine the minute-by-minute liquidity and trading behavior in both the ETF and options markets using the ETF’s most buy and most sell moments. We find that market makers are able to hedge their inventories by tapping into the liquidity provided by multi-leg complex options orders. Market makers provide price incentives to successfully establish hedged positions allowing them to capture, in addition to the bid-ask spreads in both security types, meaningful arbitrage profits of about 30% of their overall revenues during these moments. Overall, our study sheds new light on the incentives that market makers have to amplify the interconnectedness between ETFs and derivatives markets in recent years.
Presentations: University of Illinois at Urbana-Champaign 2024; Derivatives and Asset Pricing Conference 2024; University of Wisconsin-Madison; FMA, 2023; 18th Early Career Women in Finance Conference (pre-WFA), San Francisco, 2023; Cincinnati University 2023; Southern Finance Association (SFA), Puerto Rico, 2023
1. "Information-Driven Volatility" with Hengjie Ai, Leyla Jianyu Han, October 2023, [PDF]
Abstract: Standard asset pricing models with stochastic volatility predict a robust positive relationship between past realized volatility and future expected returns. Empirical work typically finds this relationship to be negative. We develop an asset pricing model where stock market volatility dynamics are driven by information. We show that information-driven volatility induces a negative correlation between past realized volatility and future expected returns. We provide empirical evidence for the unique implications of the information-driven volatility channel and demonstrate that our model can quantitatively replicate the evidence.
Presentations: SITE Stanford University 2023; CEPR 2023; Western Finance Association Meetings, 2022; 8th SAFE asset pricing workshop, 2021; Canadian Derivatives Institute, 2021; the JEDC SI conference, 2021; Midwest Finance Association, 2021; China International Risk Forum, 2021; University of Toronto, Chinese University of Hong Kong--Shenzhen, Baruch College, University of Washington, University of Minnesota, UT Dallas, University of Wisconsin-Madison, University of Oklahoma, University of Manitoba, Tsinghua University PBCSF, Wuhan University, Zhongnan University of Economics and Law.
Permanent Working Paper
1. "Tail Risk and Equity Risk Premia" [PDF]
Abstract: This paper develops a new semi-parametric estimation method based on an extended ICAPM dynamic model incorporating jump tails. The model allows for time-varying, asymmetric jump size distributions, and a self-exciting jump intensity process while avoiding commonly used but restrictive affine assumptions on the relationship between jump intensity and volatility. The estimated model implies that the average annual jump risk premium is 6.70%. The model-implied jump risk premium also has strong and robust explanatory power for short-to-medium run aggregate market returns.
Presentations: Department of Finance, Whitman School of Management, Syracuse University, 2014; Department of Finance, Smith School of Business, University of Maryland, 2014; Department of Finance and Business Economics, Fordham University, 2014; School of Banking & Finance, Australian School of Business, UNSW, Australia, 2014; Center for Finance, Stony Brook University, 2014; CIREQ Time Series Conference (poster), Montreal, 2014
2. "Loss Uncertainty, Gain Uncertainty, and Expected Stock Returns" with Bruno Feunou, Ricardo Lopez Aliouchkin, Roméo Tédongap, September 2022, [PDF]
Abstract: We introduce a new measure for the premium associated with stock return uncertainty fluctuations, termed the quadratic risk premium (QRP), like the variance risk premium (VRP). Empirical measurement of VRP in the literature does not always conform with the premium definition as the difference between risk-neutral and physical expectations of the same quantity. We quantify significant biases due to this inconsistency. In contrast, our QRP measure is consistent, robust and unbiased. We then decompose the QRP into its gain and loss components and find that both display a large heterogeneity and are significantly priced in the cross-section of stock returns.
Presentations: Financial Management Association, 2020; Midwest Finance Association, 2020; Northern Finance Association 31st Annual Conference, 2019; Toulouse Financial Econometrics Conference,2019; ESSEC-Amundi Annual Workshop on Asset & Risk Management 2018; 16th Paris December Finance Meeting, 2018; FMA European Conference, 2018; Frontiers of Factor Investing Conference, 2018; ESSEC Business School's 4th Empirical Finance Workshop, 2017; OptionMetrics' 6th Annual Research Conference, New York, 2017; 1th Workshop on Applied Financial Econometrics at MSH de Paris Nord, 2017; University of Reading, 2017; Norwegian Business School, 2017.