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The Information in Option Volume for Future Stock Prices

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  • Jun Pan
  • Allen M. Poteshman

Abstract

We present strong evidence that option trading volume contains information about future stock prices. Taking advantage of a unique data set, we construct put-call ratios from option volume initiated by buyers to open new positions. Stocks with low put-call ratios outperform stocks with high put-call ratios by more than 40 basis points on the next day and more than 1% over the next week. Partitioning our option signals into components that are publicly and nonpublicly observable, we find that the economic source of this predictability is nonpublic information possessed by option traders rather than market inefficiency. We also find greater predictability for stocks with higher concentrations of informed traders and from option contracts with greater leverage. Copyright 2006, Oxford University Press.

Suggested Citation

  • Jun Pan & Allen M. Poteshman, 2006. "The Information in Option Volume for Future Stock Prices," The Review of Financial Studies, Society for Financial Studies, vol. 19(3), pages 871-908.
    • Handle: RePEc:oup:rfinst:v:19:y:2006:i:3:p:871-908
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    File URL: http://hdl.handle.net/10.1093/rfs/hhj024
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    JEL classification:

    • G1 - Financial Economics - - General Financial Markets

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