Abstract
We examine the presence and performance of volatility arbitrage opportunities around earnings announcements using daily ELW (equity linked warrant) trade data in the Korean market. We find that volatilities drift in a predictable and monotonic fashion, which is different from findings in prior literature. The predictable drift generates a volatility arbitrage opportunity. Our trading strategy exploits both the pre- and the post-announcement drift of implied volatilities and generates a sizable trading profit of 11.4% per ELW contract in excess of transaction costs during the 21 business days around the earnings announcement date. In particular, short-term deep out-of-the-money ELWs deliver a 26.0% trading profit per ELW contract. The profits remain robust after considering the liquidity of ELWs and assuming very high transaction costs. Our results suggest that the Korean ELW market is not a level playing field because the trading strategy is easily implementable for liquidity providers while difficult for retail investors.
| Original language | English |
|---|---|
| Pages (from-to) | 109-130 |
| Number of pages | 22 |
| Journal | Pacific Basin Finance Journal |
| Volume | 23 |
| DOIs | |
| Publication status | Published - 2013 Jun 1 |
| Externally published | Yes |
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ASJC Scopus subject areas
- Economics and Econometrics
- Finance
Cite this
Volatility arbitrage around earnings announcements : Evidence from the Korean equity linked warrants market. / Baik, Bok; Kang, Hyoung Goo; Kim, Young Jun.
In: Pacific Basin Finance Journal, Vol. 23, 01.06.2013, p. 109-130.Research output: Contribution to journal › Article
}
TY - JOUR
T1 - Volatility arbitrage around earnings announcements
T2 - Evidence from the Korean equity linked warrants market
AU - Baik, Bok
AU - Kang, Hyoung Goo
AU - Kim, Young Jun
PY - 2013/6/1
Y1 - 2013/6/1
N2 - We examine the presence and performance of volatility arbitrage opportunities around earnings announcements using daily ELW (equity linked warrant) trade data in the Korean market. We find that volatilities drift in a predictable and monotonic fashion, which is different from findings in prior literature. The predictable drift generates a volatility arbitrage opportunity. Our trading strategy exploits both the pre- and the post-announcement drift of implied volatilities and generates a sizable trading profit of 11.4% per ELW contract in excess of transaction costs during the 21 business days around the earnings announcement date. In particular, short-term deep out-of-the-money ELWs deliver a 26.0% trading profit per ELW contract. The profits remain robust after considering the liquidity of ELWs and assuming very high transaction costs. Our results suggest that the Korean ELW market is not a level playing field because the trading strategy is easily implementable for liquidity providers while difficult for retail investors.
AB - We examine the presence and performance of volatility arbitrage opportunities around earnings announcements using daily ELW (equity linked warrant) trade data in the Korean market. We find that volatilities drift in a predictable and monotonic fashion, which is different from findings in prior literature. The predictable drift generates a volatility arbitrage opportunity. Our trading strategy exploits both the pre- and the post-announcement drift of implied volatilities and generates a sizable trading profit of 11.4% per ELW contract in excess of transaction costs during the 21 business days around the earnings announcement date. In particular, short-term deep out-of-the-money ELWs deliver a 26.0% trading profit per ELW contract. The profits remain robust after considering the liquidity of ELWs and assuming very high transaction costs. Our results suggest that the Korean ELW market is not a level playing field because the trading strategy is easily implementable for liquidity providers while difficult for retail investors.
KW - Derivative warrant
KW - Earnings announcement
KW - Equity linked warrant (ELW)
KW - G13
KW - G14
KW - Implied volatility
KW - Volatility arbitrage
UR - http://www.scopus.com/inward/record.url?scp=84874684300&partnerID=8YFLogxK
UR - http://www.scopus.com/inward/citedby.url?scp=84874684300&partnerID=8YFLogxK
U2 - 10.1016/j.pacfin.2013.01.001
DO - 10.1016/j.pacfin.2013.01.001
M3 - Article
AN - SCOPUS:84874684300
VL - 23
SP - 109
EP - 130
JO - Pacific Basin Finance Journal
JF - Pacific Basin Finance Journal
SN - 0927-538X
ER -