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Role of derivatives market in attenuating underreaction to left‐tail risk

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  • Sumit Saurav
  • Sobhesh Kumar Agarwalla
  • Jayanth R. Varma

Abstract

The anomalous negative relationship between left‐tail risk measures and future returns has recently attracted the attention of finance researchers. We examine the role of the derivatives market in attenuating left‐tail risk anomaly in India, where derivatives trade only for a subset of stocks. We find that the negative association between left‐tail risk measure and future return is absent only in stocks having derivatives, indicating that derivatives trading hastens the diffusion of negative information into the stock prices. We find evidence that the information generation role of derivatives markets plays a primary role compared to investor inattention and limits to arbitrage.

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  • Sumit Saurav & Sobhesh Kumar Agarwalla & Jayanth R. Varma, 2024. "Role of derivatives market in attenuating underreaction to left‐tail risk," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 44(3), pages 484-517, March.
    • Handle: RePEc:wly:jfutmk:v:44:y:2024:i:3:p:484-517
    DOI: 10.1002/fut.22478
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