Essays in option market liquidity

Abstract

Ph. D. Thesis.This study investigates equity option market liquidity with different aspects of the bid-ask spread, open interest, and trading volume in the US. We find a newly discovered determinant of option liquidity: excess cash (that is, the level of cash reserve in excess of what can be captured by firm characteristics) after accounting for underlying stock liquidity. We display evidence that an increase of 1% in excess cash holding leads to a 0.58% reduction in option bid-ask spread, 0.28% increase in open interest, and 0.26% increase in trading volume. We also demonstrate that there is a significantly positive linkage between stock and equity option market liquidity. The results show that funding liquidity is a liquidity supplier of their market liquidity linkages. Stocks with a higher probability of informed trading or facing greater short-selling pressures register a significant reduction in the stock-equity option market liquidity interactions. What is more, we analyse the effects of option market liquidity on stock price crash risk. We find that the magnitude of crash risk will increase when the companies with a higher trading volume and open interests of the options, while the option bid-ask spread will decrease market crashes