mad money and smart money: the discrepancy of rationality between options and equity markets

28
Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets Presented By Carl R. Chen – University of Dayton

Upload: ailsa

Post on 05-Jan-2016

34 views

Category:

Documents


0 download

DESCRIPTION

Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets. Presented By Carl R. Chen – University of Dayton. Introduction We examine the impact of analyst’s recommendations on stocks and options - PowerPoint PPT Presentation

TRANSCRIPT

Page 1: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Mad Money and Smart Money: The Discrepancy of Rationalitybetween Options and Equity Markets

PresentedBy

Carl R. Chen – University of Dayton

Page 2: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

I. Introduction

We examine the impact of analyst’s recommendations on stocks and options

Different reactions to the recommendations could distinguish trader types in these two markets

We focus on the recommendations made by the popular CNBC Mad Money show hosted by Jim Cramer

Page 3: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

• The show is aired every weekday @ 6:00 p.m.

• The show draws more than 398,000 viewers daily

Is this guy sexy?

Page 4: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Price Pressure vs. New Information

Price Pressure HypothesisPrice could temporarily diverge from true value due to uninformed shift in excess demand

New Information HypothesisPrice adjusts to new information permanently

Test both the stock and options markets response to the Cramer’s stock recommendations

Market that shows the price pressure effect is driven by the uninformed

Page 5: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

II. Literature Stock Market

Engelberg et al. (2007) and Balcarcel & Chen (2007)

Motivation of Balcarcel & Chen Mad Money show produces a short-lived

price pressure effect on the stock market uninformed trading

Options Market? No work related to the Mad Money

effect there are literature related to the price

discovery function of the options market

Page 6: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Options price does not predict stock (spot) price

Stock Options: Stephan & Whaley (1990), Chan et al (1993), O’Connor et al (1999), Chan et al (2002)

Currency Options: Brenner et al (1996), Pan et al (1996)

Informed trades occur in the options market

Using Hasbrouck’s (1995) information share analysis, Chakravarty, Gulen, Mahyhew (2004) find that 17% of the price discovery occurs in the options market

Easley, O’Hara, Srinivas (1998), Pan, Poteshman (2003) use signed options volume to show that options markets contain information of the underlying asset price changes

Cao et al (2000): abnormal trading before takeover announcements

Page 7: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

III. Data and Methodology Data

Final sample contains 368 buy and 358 sell recommendations for the months of August and September 2005

Daily stock returns are taken from CRSP Stock dividend yields are from COMPUSTAT Daily options data are obtained from the

Market Data Express (MDX) by CBOE To minimize the non-synchronous trading,

we match MDX underlying stock price with intraday bid-ask from Trade and Quote (TAQ)

We drop the observation when stock price in options data differs from CRSP by more than 0.5%

Page 8: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

MethodologyA. Event Study Procedure

Rit=αi + βi Rmt + εit, t=-124,…, -5 ARit = Rit – (α`i + β`i Rmt) = ε`it, t = 1, 2,…,

30 2

1 1

1 N t

iti t t

CAR ARN

2 2

1 1 1

1( ) /

N t t

it iti t t t t

Z CAR AR VAR ARN

222 22

1 1

[ ( )] / ( )t t

it i mt m mt t t t

TVAR AR T R T R L VAR R

L

Page 9: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

We also compute the average abnormal share turnover (ATO) and average abnormal bid-ask spread (ASPREAD) for each day follow the same procedure

In the revised version of the paper (in progress) We use three-factor model to compute the

abnormal returns We expand the sample to cover more than

1,000 recommendations

Page 10: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

B. Implied Price Changes in the Options Market

1.The Sequential Approach Since

11

ˆ ˆ( , , )t s t t tS f O R

Implied volatility of the previous period serves as a proxy of t. Together with options premium Ot and Rt ,

we estimate the implied stock price backwardly using the Generalized Newton Method algorithm (see Chakravarty et al 2004). This is a direct measurement of the stock price embedded in options

( ; ; )t t t tO f S RWhere Rt represents other observable variables such as risk-free rate, options maturity, and strike price, then

Page 11: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

2. The Option Boundary Approach This approach gauges the degree of

divergence between option-implied and actual stock price

American option boundary with market friction of Bodurtha and Courtadon (1986) is employed

This is a model-free estimate, but not a direct measure of stock price

With market frictions, the upper boundaries for American call and put are as follows:

(Pa + Sa – Xe-rt ) + (TX +TS +TP )≥ Cb - Tc

(Ca - Sbe-qt + X) + (TX +TS +TC)≥ Pb -Tp

Page 12: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

S, P, C, X, r, q and t are stock price, put premium, call premium, strike price, risk-free rate, dividend yield, and time to maturity. Superscript « a » and « b » denore ask and bid of the quotes. T represents transaction cost for trading respective instruments.

• Sa ≥ Cb – Pa +Xe-rxt – (Tx+Ts+Tp+Tc) =L• Sb ≤ [Ca – Pb +X + (Tx+Ts+Tp+Tc)]/e-qt =H

• (L – Sa) distance between lower bound and the observed stock price• (Sb – H)e–qt distance between higher bound and observed stock price

Page 13: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Divergence= (Ca + Cb - Pa – Pb ) - (Sa + Sbe-qt ) + X(1+e-rt) A positive (negative) “Divergency”

indicates that the implied stock price is more likely to be larger (smaller) than the observed stock price.

|-------------------------------------*---------*--------------------------------------------| Low Sb Sa High |_______Divergence=0_______|

Low High |________Divergence<0_______|

LowHigh |_________ Divergence>0________|

Page 14: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

3. Options data Three options maturities:

short: 10-30 days; Mid: 31-60 days; Long: 61-120 days

Three options moneyness OTM: =0.02~0.45; ATM: =0.45~0.55; ITM: =0.55~0.98

Page 15: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

IV. Empirical ResultsTable 1: Summary Statistics

Panel A: Stocks of Buy Recommendations

Obs. Size

($mil) Stock

Spread Stock

Turnover Beta Call options Put options

Option Spread

IV Ratio

Option Volume

Option Volume

Ratio Option Spread

IV Ratio

Option Volume

Option Volume

Ratio Entire 368 16,455 0.10% 1.25% 1.39 30.25% 2.68 407 1.32% 29.71% 2.85 239 0.89% Small 91 933 0.16% 2.02% 2.24 35.29% 3.71 112 1.56% 36.58% 3.98 69 1.03% Med 130 4,644 0.09% 1.20% 1.33 30.51% 2.56 181 1.09% 31.62% 2.73 117 0.81% Large 147 36,510 0.06% 0.82% 0.91 26.89% 2.15 789 1.38% 23.84% 2.26 449 0.88%

Panel B: Stocks of Sell Recommendations

Obs. Size

($mil) Stock

Spread Stock

Turnover Beta Call options Put options

Option Spread IV

Option Volume

Volume Ratio

Option Spread IV

Option Volume

Volume Ratio

Entire 358 10,825 0.12% 1.49% 1.71 36.32% 3.19 300 1.30% 32.82% 3.37 204 0.97% Small 152 828 0.16% 2.03% 2.35 40.22% 4.03 148 1.49% 36.15% 4.25 96 1.09% Med 118 3,799 0.10% 1.35% 1.47 34.41% 2.88 268 1.16% 32.57% 3.05 172 0.88% Large 88 37,516 0.07% 0.77% 0.92 32.16% 2.16 607 1.16% 27.43% 2.28 431 0.86%

Page 16: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Table 2: Summary Statistics of the Options DataPanel A – Call Options for the Buy Recommendations

Buy Recommendations

Moneyness Maturity Obs. size

($mil) Option spread

IV ratio

Option Volume

Volume Ratio

Stock Spread

Stock Turnover

Small-Cap OTM Short 85 951 92.91% 3.95 146 1.97% 0.15% 1.97%

Mid 90 918 76.95% 3.78 120 1.86% 0.16% 1.98% Long 91 928 51.16% 3.47 69 1.29% 0.15% 2.02% ATM Short 85 921 27.00% 3.63 219 2.46% 0.16% 2.15% Mid 90 930 19.53% 3.59 124 1.67% 0.15% 1.91% Long 91 939 14.71% 3.51 77 1.25% 0.15% 1.96% ITM Short 85 940 15.28% 3.78 121 1.54% 0.17% 2.07% Mid 89 932 12.29% 3.89 88 1.25% 0.17% 2.06% Long 90 939 9.27% 3.82 55 0.79% 0.16% 2.09%

Mid-Cap OTM Short 122 4,713 95.45% 2.78 259 1.35% 0.09% 1.23% Mid 127 4,629 73.88% 2.53 210 1.23% 0.10% 1.16% Long 127 4,619 41.32% 2.33 107 0.73% 0.09% 1.18% ATM Short 123 4,677 20.20% 2.39 339 1.90% 0.10% 1.21% Mid 125 4,645 13.43% 2.43 213 1.33% 0.09% 1.20% Long 126 4,643 10.02% 2.40 119 0.83% 0.09% 1.20% ITM Short 127 4,641 9.73% 2.74 162 0.93% 0.09% 1.20% Mid 129 4,609 7.48% 2.71 148 0.94% 0.09% 1.21% Long 130 4,625 5.85% 2.69 84 0.63% 0.09% 1.24%

Large-Cap OTM Short 145 36,568 88.84% 2.16 1,206 1.95% 0.06% 0.82% Mid 146 36,352 69.37% 2.05 943 1.60% 0.06% 0.81% Long 147 36,205 40.79% 1.95 461 0.81% 0.06% 0.81% ATM Short 142 37,239 12.66% 1.93 1,379 2.40% 0.06% 0.85% Mid 146 36,465 9.13% 2.02 1,002 1.61% 0.06% 0.83% Long 147 36,252 6.69% 2.02 454 0.89% 0.06% 0.82% ITM Short 144 36,798 5.99% 2.47 823 1.68% 0.06% 0.81% Mid 146 36,407 4.74% 2.38 570 0.89% 0.06% 0.83% Long 147 36,332 3.72% 2.34 287 0.63% 0.06% 0.83%

Page 17: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Table 2: Panel B – Call Options for Sell Recommendations

Sell Recommendations

Moneyness Maturity Obs. size

($mil) Option spread IV

Option Volume

Volume Ratio

Stock Spread

Stock Turnover

Small-

Cap OTM Short 132 830 96.05% 4.31 184 1.95% 0.16% 2.13% Mid 149 823 89.80% 4.20 144 1.60% 0.16% 2.03% Long 152 829 65.67% 3.82 122 1.11% 0.16% 1.99% ATM Short 135 792 31.16% 3.88 262 2.49% 0.15% 1.93% Mid 146 830 22.63% 3.90 175 1.82% 0.16% 1.89% Long 149 832 16.53% 3.80 131 1.15% 0.16% 1.97% ITM Short 134 841 17.77% 4.16 141 1.43% 0.16% 2.01% Mid 143 832 12.68% 4.12 94 1.13% 0.16% 2.08% Long 147 840 10.58% 4.09 86 0.85% 0.16% 2.20%

Mid-Cap OTM Short 109 3,850 93.80% 3.15 455 1.78% 0.10% 1.39%

Mid 118 3,774 82.95% 2.92 298 1.28% 0.10% 1.32% Long 117 3,804 57.18% 2.68 172 0.81% 0.11% 1.30% ATM Short 104 3,777 22.32% 2.68 467 1.89% 0.11% 1.41% Mid 111 3,758 15.89% 2.76 350 1.51% 0.09% 1.33% Long 117 3,761 11.29% 2.69 174 0.86% 0.10% 1.34% ITM Short 112 3,855 11.96% 3.00 244 1.11% 0.09% 1.32% Mid 116 3,810 8.36% 3.07 192 0.87% 0.10% 1.35% Long 118 3,801 6.36% 3.00 95 0.46% 0.10% 1.36%

Large-Cap OTM Short 85 37,762 93.42% 2.22 847 1.87% 0.07% 0.77%

Mid 88 36,821 82.81% 2.12 793 1.49% 0.08% 0.76% Long 87 37,122 58.91% 1.98 433 0.81% 0.07% 0.77% ATM Short 78 39,409 16.19% 1.91 1,083 1.96% 0.06% 0.77% Mid 87 37,170 11.26% 2.01 759 1.39% 0.07% 0.78% Long 86 37,436 7.75% 2.02 373 0.67% 0.08% 0.77% ITM Short 85 37,813 7.49% 2.43 548 1.05% 0.08% 0.75% Mid 87 37,139 5.55% 2.39 463 0.79% 0.08% 0.77% Long 87 37,186 4.35% 2.36 212 0.48% 0.07% 0.78%

Page 18: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Table 2: Panel C – Put Options for Buy Recommendations Buy Recommendations

Moneyness Maturity Obs. size

($mil) Option spread IV

Option Volume

Volume Ratio

Stock Spread

Stock Turnover

Small-

Cap OTM Short 79 957 94.20% 4.47 101 1.86% 0.15% 2.36% Mid 86 926 84.16% 4.37 79 1.31% 0.15% 2.22% Long 90 961 57.78% 4.14 63 1.09% 0.18% 2.19% ATM Short 78 918 21.91% 3.83 105 1.23% 0.16% 2.48% Mid 87 919 18.45% 3.72 83 1.15% 0.14% 2.14% Long 85 934 12.29% 3.71 47 0.87% 0.16% 2.42% ITM Short 70 910 13.32% 3.89 71 0.79% 0.16% 2.52% Mid 82 943 11.59% 3.88 42 0.60% 0.15% 2.52% Long 72 933 7.52% 3.78 31 0.48% 0.13% 3.02%

Mid-Cap OTM Short 123 4,695 98.25% 3.25 202 1.25% 0.09% 1.27%

Mid 128 4,601 77.18% 3.07 170 1.22% 0.09% 1.22% Long 127 4,652 44.38% 2.86 103 0.79% 0.09% 1.25% ATM Short 119 4,718 18.12% 2.42 192 1.18% 0.09% 1.23% Mid 121 4,696 11.62% 2.50 116 0.74% 0.09% 1.28% Long 124 4,688 9.08% 2.48 66 0.52% 0.10% 1.32% ITM Short 119 4,786 9.07% 2.86 83 0.57% 0.09% 1.32% Mid 122 4,702 6.68% 2.64 76 0.67% 0.10% 1.29% Long 119 4,772 5.56% 2.48 41 0.32% 0.09% 1.37%

Large-Cap OTM Short 143 37,005 77.99% 2.57 930 1.68% 0.06% 0.82%

Mid 146 36,397 58.82% 2.51 760 1.48% 0.06% 0.83% Long 147 36,291 34.86% 2.47 374 0.84% 0.06% 0.83% ATM Short 142 37,029 13.12% 1.93 720 1.41% 0.06% 0.85% Mid 146 36,441 8.75% 2.04 499 0.85% 0.06% 0.84% Long 146 36,465 6.23% 2.06 179 0.39% 0.06% 0.85% ITM Short 144 36,742 6.37% 2.38 314 0.58% 0.06% 0.83% Mid 146 36,295 4.87% 2.25 199 0.38% 0.06% 0.84% Long 144 36,751 3.78% 2.10 76 0.17% 0.07% 0.84%

Page 19: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Table 2: Panel D – Put Options for Sell Recommendations Sell Recommendations

Moneyness Maturity Obs. sizz

($mil) Option spread IV

Option Volume

Volume Ratio

Stock Spread

Stock Turnover

Small-

Cap OTM Short 131 841 89.51% 4.72 155 1.65% 0.14% 2.16% Mid 141 837 79.12% 4.51 111 1.58% 0.15% 2.17% Long 149 839 54.72% 4.43 107 1.12% 0.17% 2.24% ATM Short 127 808 28.44% 4.04 111 1.22% 0.14% 2.15% Mid 142 821 19.42% 4.06 118 1.43% 0.17% 2.20% Long 143 827 13.82% 4.03 72 0.81% 0.16% 2.37% ITM Short 122 821 16.26% 4.12 82 0.78% 0.16% 2.53% Mid 137 836 12.63% 4.24 65 0.67% 0.16% 2.62% Long 131 846 8.52% 4.05 42 0.52% 0.16% 2.64%

Mid-Cap OTM Short 106 3,908 92.60% 3.43 286 1.52% 0.09% 1.42%

Mid 113 3,824 78.50% 3.45 266 1.26% 0.10% 1.42% Long 115 3,829 50.78% 3.20 150 0.86% 0.10% 1.35% ATM Short 100 3,756 22.08% 2.79 275 1.30% 0.10% 1.44% Mid 110 3,826 14.27% 2.82 215 0.98% 0.09% 1.37% Long 112 3,827 9.63% 2.78 96 0.60% 0.10% 1.40% ITM Short 102 3,907 10.21% 3.15 142 0.61% 0.10% 1.54% Mid 112 3,831 7.64% 2.98 83 0.51% 0.10% 1.46% Long 114 3,841 6.75% 2.81 56 0.35% 0.12% 1.56%

Large-Cap OTM Short 85 37,825 83.49% 2.53 631 1.56% 0.07% 0.75%

Mid 86 37,454 67.92% 2.56 727 1.41% 0.06% 0.76% Long 87 37,160 43.82% 2.49 381 0.75% 0.07% 0.78% ATM Short 78 39,350 15.84% 1.93 765 1.33% 0.07% 0.77% Mid 86 37,408 10.38% 2.05 479 0.92% 0.08% 0.79% Long 85 37,764 7.15% 2.07 234 0.46% 0.06% 0.80% ITM Short 85 37,799 7.47% 2.43 326 0.68% 0.06% 0.77% Mid 87 37,102 5.64% 2.30 222 0.43% 0.07% 0.78% Long 85 37,730 4.11% 2.15 147 0.28% 0.08% 0.80%

Page 20: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Table 3: The Price Pressure Effect (Stock Markets)

Buy Sell

Date AR% CAR% t(ATO) t(ASPREAD) AR% CAR% t(ATO) t(ASPREAD) All 1 0.41 0.41 0.11 0.11

(0.92) (0.92) 2.31 1.91 (1.07) (1.07) 2.26 0.87

2

0.15 (0.78)

0.55 (1.17) 1.29 0.14

-0.30 (-1.29)

-0.19 (-1.26) 0.69 -0.46

10

-0.29

(-1.73) -0.21

(-1.62) 0.47 1.09 0.17

(1.08) -0.77

(-1.41) 0.58 -0.74

30

-0.17

(-1.61) -2.54

(-2.08) 0.75 0.18 -0.30

(-1.27) -1.27

(-1.65) 0.11 0.24

Small-Cap 1

0.91 (2.15)

0.91 (2.15) 9.55 2.68

0.28 (1.21)

0.28 (1.21) 2.77 1.31

2

0.53 (1.91)

1.44 (2.83) 5.12 1.05

-0.74 (-1.59)

-0.46 (-1.30) 1.67 -0.55

10

-0.64

(-1.12) -0.21

(-0.69) 1.13 0.29 -0.20

(-1.03) -1.74

(-2.24) -1.55 -0.45

30

-0.12

(-0.97) -3.76

(-2.48) 0.71 -0.41 -0.07

(-0.15) -2.57

(-1.81) -0.16 0.22

Mid-Cap 1

0.03 (0.21)

0.03 (0.21) 2.91 0.54

0.08 (0.05)

0.08 (0.05) 1.41 -0.79

2

-0.20 (-0.39)

-0.17 (-1.32) 1.03 0.61

-0.10 (-0.11)

-0.02 (-0.63) 1.51 -0.70

10

-0.02

(-0.06) -0.08

(-0.55) 0.75 -0.18 0.04

(0.85) -0.54

(-1.09) 0.68 -0.62

30

-0.17

(-0.63)

-1.75 (-1.84) 1.26 -0.21

-0.11 (-0.61)

-0.61 (-0.81) 0.97 -0.62

Large-Cap 1

0.13 (1.01)

0.13 (1.01) 1.24 0.15

0.03 (0.23)

0.03 (0.23) 2.09 0.54

2 0.03

(0.98) 0.16

(1.24) 1.06 -0.22 -0.20

(-0.94) -0.17

(-0.61) 0.27 0.91

10 -0.14

(-0.87) -0.41

(-1.79) -0.41 0.71 -0.0

(-0.78) -0.38

(-1.05) 0.10 -0.14

30 -0.23

(-1.01) -1.38

(-1.76) 0.29 -0.13 0.01

(-0.21) -0.73

(-.128) 0.68 0.21

Page 21: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets
Page 22: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Table 4: The Price Pressure Effect (Options Markets)Panel A – Buy Recommendations

Only Days 1 is reported

Call^

tS Put^

tS Divergence AR t-stat AR t-stat AR t-stat

Small-Cap OTM Short 0.14 0.07 -0.2 -0.48 OTM call and ITM put -0.51 -2.78 Mid -0.07 -0.28 0.47 1.26 0.04 0.52 Long 0.28 1.33 0.07 0.34 -0.23 -0.94 ATM Short 0.63 1.47 -0.09 -0.24 ATM call and ATM put -0.07 -0.33 Mid -0.09 -0.36 -0.23 -1.26 -1.35 -1.71 Long -0.16 -0.41 0.22 1.42 0.23 1.02 ITM Short 0.17 0.55 -0.41 -1.61 ITM call and OTM put 1.33 0.99 Mid 0.28 0.98 0.05 0.19 -0.46 -1.65 Long 0.36 1.23 0.05 0.27 0.16 1.11

Mid-Cap OTM Short 0.32 1.6 -0.23 -0.75 OTM call and ITM put -0.03 -0.64 Mid -0.1 -0.64 0.17 0.98 -1.95 -1.09 Long -0.14 -0.92 0.43 1.38 0.18 0.87 ATM Short -0.44 -0.95 0.12 0.53 ATM call and ATM put 0.21 0.96 Mid -1.02 -1.14 0.67 1.33 -0.02 -0.17 Long -0.1 -0.6 0.22 1.28 0.71 0.88 ITM Short -0.08 -0.45 -0.04 -0.16 ITM call and OTM put -0.37 -0.91 Mid -0.29 -1.06 0.03 0.17 0.18 1.64 Long -0.32 -1.56 0.57 1.38 -0.11 -0.66

Large-Cap OTM Short -0.02 -0.08 -0.01 -0.05 OTM call and ITM put -1.59 -0.93 Mid 0.01 0.04 -0.16 -1.27 0.15 1.48 Long -0.02 -0.16 0.04 0.26 0.06 0.58 ATM Short 0.15 0.64 -0.13 -0.22 ATM call and ATM put -0.11 -0.7 Mid -0.06 -0.36 -0.03 -0.13 0.13 0.46 Long 0.06 0.34 0.06 0.49 0.01 0.15 ITM Short 0.04 0.28 -0.16 -0.96 ITM call and OTM put 0.17 0.8 Mid -0.08 -0.46 0.03 0.22 0.08 1.07 Long -0.07 -0.43 0.01 0.07 -0.03 -0.33

Synthetic Short stock

Page 23: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Table 4: The Price Pressure Effect (Options Markets)Panel B – Sell Recommendations

Call^

tS Put^

tS Divergence AR t-stat AR t-stat AR t-stat

Small-Cap OTM Short -0.31 -1.86 -0.43 -1.17 OTM call and ITM put -0.64 -2.25 Mid -0.03 -0.15 -0.47 -1.60 -0.35 -0.88 Long -0.04 -0.24 -0.17 -0.88 1.44 1.05 ATM Short -0.57 -1.73 -0.40 -1.61 ATM call and ATM put -0.18 -1.05 Mid -0.39 -1.41 -0.43 -1.37 -0.07 -0.39 Long -0.30 -1.41 -0.35 -1.00 0.16 0.82 ITM Short -0.37 -1.27 -0.46 -1.74 ITM call and OTM put -0.16 -0.95 Mid -0.55 -1.58 -0.05 -0.15 0.22 1.44 Long -0.50 -1.44 -0.35 -1.59 -0.09 -1.12

Mid-Cap OTM Short -0.21 -0.78 -0.06 -0.43 OTM call and ITM put -0.10 -0.51 Mid -0.24 -1.66 -0.07 -0.42 0.12 1.34 Long -0.11 -0.68 -0.06 -0.41 -0.04 -0.30 ATM Short -0.31 -0.40 -0.50 -0.83 ATM call and ATM put 0.21 1.38 Mid 0.27 0.91 -0.08 -0.30 -0.18 -1.73 Long -0.26 -1.45 0.20 1.06 -0.05 -0.36 ITM Short -0.09 -0.40 -0.51 -1.55 ITM call and OTM put -0.07 -0.21 Mid -0.35 -1.67 -0.07 -0.43 0.13 1.61 Long -0.30 -1.30 -0.08 -0.40 0.01 0.05

Large-Cap OTM Short -0.37 -1.51 0.12 0.60 OTM call and ITM put -0.86 -1.00 Mid -0.26 -1.50 -0.01 -0.08 -0.54 -0.95 Long -0.23 -1.35 0.18 1.00 -0.23 -1.08 ATM Short -0.07 -0.27 0.26 0.64 ATM call and ATM put 0.49 1.75 Mid -0.64 -1.28 -0.15 -0.93 -0.04 -0.51 Long -0.58 -1.12 0.08 0.65 -0.17 -1.60 ITM Short -0.59 -1.53 0.10 0.38 ITM call and OTM put 0.50 0.95 Mid -0.61 -1.64 0.11 1.08 -0.28 -1.20 Long -0.21 -1.18 -0.03 -0.16 -0.18 -1.75

Page 24: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Table 5: Correlations between Abnormal Stock Returns and Abnormal Implied Price Changes (day -124 ~ -5)

AR ^

tS from calls ^

tS from puts Divergence

AR 1 0.87 <0.001 0.83 <0.001 0.66 0.008 ^

tS from calls 1 0.91 <0.001 0.75 <0.001 ^

tS from puts 1 0.69 <0.001

Divergence 1

Page 25: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Table 6: Effect on Options TradingPanel A – Buy Recommendations

Call Options Put Options

ASPREAD t-stat ATO t-stat ASPREAD t-stat ATO t-stat Small-Cap OTM Short -0.12 -0.49 -0.03 -0.19 -0.16 -0.61 1.23 0.81

Mid -0.13 -0.65 0.26 0.97 0.42 0.9 -0.11 -0.46 Long 0.05 0.14 0.75 1.09 0.26 1.26 -0.18 -0.86 ATM Short 1.33 1.68 0.09 0.26 0.37 1.51 0.56 0.82 Mid -0.29 -1.92 -0.19 -1.14 -0.09 -0.43 0.02 0.08 Long -0.15 -0.99 0.28 0.92 0.35 1.49 0.14 0.5 ITM Short -0.07 -0.19 -0.17 -0.98 -0.73 -2.67 0.86 2.17 Mid -0.3 -1.5 -0.19 -1.6 -0.04 -0.16 0.1 0.44 Long -0.24 -1.36 0.73 1.12 0.07 0.29 -0.18 -1.69

Mid-Cap OTM Short -0.11 -0.64 0.18 0.91 0.04 0.14 1.94 1.3 Mid -0.17 -1.31 2.22 1 0.13 0.94 -0.2 -1.41 Long -0.23 -1.71 0.15 0.74 -0.08 -0.43 0.27 0.88 ATM Short -0.01 -0.05 0.33 1.08 -0.39 -1.57 0.35 0.89 Mid 0.99 0.77 -0.26 -1.42 -0.27 -1.61 0.14 0.65 Long -0.48 -1.43 0.29 1.46 -0.08 -0.6 -0.03 -0.21 ITM Short -0.35 -1.08 1.08 1.58 -0.43 -2.07 0.3 0.95 Mid -0.23 -1.64 0.16 0.82 -0.27 -1.84 0.08 0.57 Long -0.14 -0.96 0.3 0.71 -0.04 -0.24 -0.1 -1.06

Large-Cap OTM Short -0.03 -0.18 0.24 1.27 0.02 0.12 0.1 0.33 Mid -0.01 -0.05 0.18 0.82 -0.04 -0.42 -0.05 -0.61 Long 0.25 0.96 0.2 1.58 0.29 1.66 0.64 1.25 ATM Short 0.02 0.09 -0.31 -1.45 -0.16 -0.73 -0.36 -1.86 Mid 0.05 0.39 0.04 0.25 -0.11 -0.69 0.78 1.21 Long 0.09 0.42 1.01 1.26 0.14 0.42 0.2 0.98 ITM Short -0.21 -1.69 -0.02 -0.17 0 0 0.26 1.09 Mid 0.01 0.07 -0.03 -0.32 -0.19 -1.49 0.55 1.63 Long -0.25 -1.44 1.14 1.69 0.15 0.38 1.08 1.33

Page 26: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Table 6: Effect on Options TradingPanel B – Sell Recommendations

Call Options Put Options

ASPREAD t-stat ATO t-stat ASPREAD t-stat ATO t-stat Small-Cap OTM Short -0.11 -0.5 -0.06 -0.41 0.46 1.16 -0.3 -1.28

Mid 0.16 0.49 0.16 0.8 -0.11 -0.63 0.23 0.48 Long 0.38 1.43 0.29 0.93 0.36 0.98 0.02 0.11 ATM Short -0.51 -1.21 0.81 1.33 -0.11 -0.28 1.08 1.1 Mid -0.34 -1.75 0.07 0.43 -0.5 -1.69 0.73 1.68 Long 0.02 0.06 -0.07 -0.63 0.22 0.81 0.38 0.81 ITM Short 0.3 1.26 -0.21 -0.99 0.23 0.81 0.28 0.9 Mid 0.24 0.56 0.25 0.66 0.85 1.41 0 0.02 Long 0.06 0.18 -0.11 -1 0.7 1.91 1.17 1.41

Mid-Cap OTM Short -0.44 -1.07 0.16 0.44 -0.2 -0.63 -0.13 -0.93 Mid 0 -0.02 3.13 1.43 -0.32 -1.87 1.67 1.55 Long 0.13 0.79 1.06 1.81 0.26 1.09 1.3 1.79 ATM Short 0.04 0.06 0.23 0.58 -0.09 -0.26 1.78 1.22 Mid -0.31 -1.4 0.26 0.53 -0.02 -0.06 1.11 0.95 Long 0.06 0.22 1.44 1.29 -0.02 -0.1 0.4 1.55 ITM Short -0.19 -0.29 1.06 1.11 -0.21 -0.79 0.58 1.06 Mid -0.05 -0.35 0.38 0.74 0.08 0.35 0.04 0.17 Long 0.11 0.62 1.06 1 -0.07 -0.44 0.47 1.28

Large-Cap OTM Short 0.29 0.93 0.88 1.63 0.11 0.61 0.17 0.74 Mid -0.07 -0.33 0.15 1.06 -0.35 -1.3 0.11 0.45 Long 0.14 1.28 0.44 1.23 0.43 1.7 0.56 1.56 ATM Short -0.2 -0.35 0.8 1.52 -0.08 -0.23 1.2 0.97 Mid 0.57 1.64 -0.19 -1.06 -0.5 -1.69 0.24 0.59 Long -0.06 -0.35 0.03 0.1 0.13 0.3 -0.22 -1.77 ITM Short -0.22 -0.88 0.08 0.27 -0.15 -0.59 -0.28 -1.56 Mid 0.27 1.13 -0.19 -1.09 0.02 0.1 0.02 0.08 Long -0.18 -1.21 0.16 0.74 -0.12 -0.71 -0.02 -0.11

Page 27: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

Table 7: Trading Profit (Long Short-term Puts)

Speculation (buy put options and hold till maturity) Non-event period (%) t-stat Event period (%) t-stat Difference (%) t-stat

OTM -41.69 -4.31 -10.26 -2.22 31.43 4.25 ATM -18.31 -3.78 11.75 2.71 30.06 3.62 ITM -11.85 -2.92 26.24 3.13 38.09 5.08

Rt = (Vt – Ot)/Ot

Day -125 ~ -30

Buy a day after recommendation

Modified Johnson t-test

In the revised version where longer data period is employed, we find most of the profit opportunity disappeared in the latter period.

Get rich quick?

Page 28: Mad Money and Smart Money: The Discrepancy of Rationality between Options and Equity Markets

V. Conclusions Small-cap stocks show a short-lived price run-up

followed by a price reversal for the stocks Cramer recommended to buy evidence of uninformed trading

Options markets largely lack such price pressure effect informed trading Short-term ITM put options react counter the buy

recommendations. Bid-ask spreads decreased and trading increased Take advantage of naïve trading in the spot markets.

Buy short-term puts generate high profits during the event periods. ITM puts generate the highest returns.

Longer data period and different market model are employed in the revision. Results are not materially changed. There is evidence that market learns.