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The effect of stock market indexing on option market conditions

Author

Listed:
  • Chang, Eric C.
  • Ge, Li
  • Lin, Tse-Chun
  • Ma, Xiaorong

Abstract

We analyze the impact of stock market indexing on option market conditions using local linear regressions on Russell Index reconstitution. Our findings reveal that put-call parity deviations are significantly smaller for stocks at the top of the Russell 2000 Index, compared to those at the bottom of the Russell 1000 Index. Those top Russell 2000 stocks also exhibit higher trading option volume and narrower bid-ask spreads. Our results suggest that stock market indexing enhances option market conditions through increased liquidity, reducing hedging costs that benefit market makers.

Suggested Citation

  • Chang, Eric C. & Ge, Li & Lin, Tse-Chun & Ma, Xiaorong, 2026. "The effect of stock market indexing on option market conditions," Journal of Financial Markets, Elsevier, vol. 78(C).
    • Handle: RePEc:eee:finmar:v:78:y:2026:i:c:s1386418125000667
    DOI: 10.1016/j.finmar.2025.101026
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    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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