IDEAS home Printed from https://ideas.repec.org/a/eee/finlet/v41y2021ics154461232031655x.html
   My bibliography  Save this article

Synthetic forwards and cost of funding in the equity derivative market

Author

Listed:
  • Azzone, Michele
  • Baviera, Roberto

Abstract

This study introduces a new technique to recover the implicit discount factor in the derivative market using only European put and call prices: this discount is grounded in actual transactions in active markets. Moreover, this study identifies the implied cost of funding, over OIS, of major market players. Does a liquid equity market allow arbitrage? The key idea is that the (unique) forward contract -built using the put-call parity relation- contains information about the market discount factor: by no-arbitrage conditions we identify the implicit interest rate such that the forward contract value does not depend on the strike.

Suggested Citation

  • Azzone, Michele & Baviera, Roberto, 2021. "Synthetic forwards and cost of funding in the equity derivative market," Finance Research Letters, Elsevier, vol. 41(C).
    • Handle: RePEc:eee:finlet:v:41:y:2021:i:c:s154461232031655x
    DOI: 10.1016/j.frl.2020.101841
    as

    Download full text from publisher

    File URL: http://www.sciencedirect.com/science/article/pii/S154461232031655X
    Download Restriction: Full text for ScienceDirect subscribers only
    File URL: https://libkey.io/10.1016/j.frl.2020.101841?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    As the access to this document is restricted, you may want to search for a different version of it.

    References listed on IDEAS

    as
    1. Andreas Schrimpf & Vladyslav Sushko, 2019. "Beyond LIBOR: a primer on the new benchmark rates," BIS Quarterly Review, Bank for International Settlements, March.
    2. Frankfurter, George M & Leung, Wai K, 1991. "Further Analysis of the Put-Call Parity Implied Risk-Free Interest Rate," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 14(3), pages 217-232, Fall.
    3. Uri Ron, 2000. "A Practical Guide to Swap Curve Construction," Staff Working Papers 00-17, Bank of Canada.
    4. Xuan Vinh Vo & Kevin Daly, 2008. "Volatility amongst firms in the Dow Jones Eurostoxx50 Index," Applied Financial Economics, Taylor & Francis Journals, vol. 18(7), pages 569-582.
    5. Brenner, Menachem & Galai, Dan, 1986. "Implied Interest Rates," The Journal of Business, University of Chicago Press, vol. 59(3), pages 493-507, July.
    6. Marc Pierre Henrard, 2019. "LIBOR Fallback and Quantitative Finance," Risks, MDPI, vol. 7(3), pages 1-15, August.
    7. George M. Frankfurter & Wai K. Leung, 1991. "Further Analysis Of The Put-Call Parity Implied Risk-Free Interest Rate," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 14(3), pages 217-232, September.
    8. Muravyev, Dmitriy & Pearson, Neil D. & Paul Broussard, John, 2013. "Is there price discovery in equity options?," Journal of Financial Economics, Elsevier, vol. 107(2), pages 259-283.
    9. Bai, Yujuan & Pan, Zhiyuan & Liu, Li, 2019. "Improving futures hedging performance using option information: Evidence from the S&P 500 index," Finance Research Letters, Elsevier, vol. 28(C), pages 112-117.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Michele Azzone & Roberto Baviera, 2023. "Is (independent) subordination relevant in option pricing?," Papers 2307.08628, arXiv.org, revised Oct 2023.
    2. Tong, Eric, 2024. "Repercussions of the Russia–Ukraine war," International Review of Economics & Finance, Elsevier, vol. 89(PA), pages 366-390.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Michele Azzone & Roberto Baviera, 2020. "Synthetic forwards and cost of funding in the equity derivative market," Papers 2011.03795, arXiv.org, revised Jan 2022.
    2. Lim, Terence & Lo, Andrew W. & Merton, Robert C. & Scholes, Myron S., 2006. "The Derivatives Sourcebook," Foundations and Trends(R) in Finance, now publishers, vol. 1(5–6), pages 365-572, April.
    3. Vesa Puttonen, 1992. "On the behaviour of the Finnish stock index options markets," Finnish Economic Papers, Finnish Economic Association, vol. 5(2), pages 117-128, Autumn.
    4. McGoun, Elton G., 1997. "Ex ungue leonem," International Review of Financial Analysis, Elsevier, vol. 6(1), pages 1-12.
    5. Hoque, Ariful & Chan, Felix & Manzur, Meher, 2008. "Efficiency of the foreign currency options market," Global Finance Journal, Elsevier, vol. 19(2), pages 157-170.
    6. Hauser, Shmuel & Kedar-Levy, Haim & Milo, Orit, 2022. "Price discovery during parallel stocks and options preopening: Information distortion and hints of manipulation," Journal of Financial Markets, Elsevier, vol. 59(PA).
    7. Chen, Zhuo & Lu, Andrea, 2017. "Slow diffusion of information and price momentum in stocks: Evidence from options markets," Journal of Banking & Finance, Elsevier, vol. 75(C), pages 98-108.
    8. James S. Ang & Kenneth J. Hunsader & Shaojun Zhang, 2019. "Order dynamics during the flash crash," Journal of Asset Management, Palgrave Macmillan, vol. 20(5), pages 365-383, September.
    9. Avinash & T. Mallikarjunappa, 2020. "Informational Role of Open Interest and Transaction Volume of Options: A Meta-Analytic Review," FIIB Business Review, , vol. 9(4), pages 275-285, December.
    10. Vinay Patel, 2015. "Price Discovery in US and Australian Stock and Options Markets," PhD Thesis, Finance Discipline Group, UTS Business School, University of Technology, Sydney, number 27, July-Dece.
    11. Engstrom, Malin & Norden, Lars, 2000. "The early exercise premium in American put option prices," Journal of Multinational Financial Management, Elsevier, vol. 10(3-4), pages 461-479, December.
    12. Indriawan, Ivan & Jiao, Feng & Tse, Yiuman, 2021. "The SOFR and the Fed’s influence over market interest rates," Economics Letters, Elsevier, vol. 209(C).
    13. Lilian Muchimba, 2021. "Could transaction-based financial benchmarks be susceptible to collusive behaviour?," Working Papers in Economics & Finance 2021-11, University of Portsmouth, Portsmouth Business School, Economics and Finance Subject Group.
    14. Kryzanowski, Lawrence & Perrakis, Stylianos & Zhong, Rui, 2017. "Price discovery in equity and CDS markets," Journal of Financial Markets, Elsevier, vol. 35(C), pages 21-46.
    15. William Pedersen, 1998. "Capturing all the information in foreign currency option prices: solving for one versus two implied variables," Applied Economics, Taylor & Francis Journals, vol. 30(12), pages 1679-1683.
    16. Lyudmila A. Glik & Oleg L. Kritski, 2014. "Finding informed traders in futures and their inderlying assets in intraday trading," Papers 1402.6583, arXiv.org.
    17. van Binsbergen, Jules H. & Diamond, William F. & Grotteria, Marco, 2022. "Risk-free interest rates," Journal of Financial Economics, Elsevier, vol. 143(1), pages 1-29.
    18. J. Doyne Farmer & Spyros Skouras, 2013. "An ecological perspective on the future of computer trading," Quantitative Finance, Taylor & Francis Journals, vol. 13(3), pages 325-346, February.
    19. Robert F. Engle & Alex Kane & Jaesun Noh, 1993. "Index-Option Pricing with Stochastic Volatility and the Value of Accurate Variance Forecasts," NBER Working Papers 4519, National Bureau of Economic Research, Inc.
    20. R. Jared DeLisle & Bong Soo Lee & Nathan Mauck, 2016. "The dynamic relation between options trading, short selling, and aggregate stock returns," Review of Quantitative Finance and Accounting, Springer, vol. 47(3), pages 645-671, October.

    More about this item

    Keywords

    Forward price; Put-call parity; Implied interest rate; Cost of funding; Synthetic forward;
    All these keywords.

    JEL classification:

    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:eee:finlet:v:41:y:2021:i:c:s154461232031655x. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Catherine Liu (email available below). General contact details of provider: http://www.elsevier.com/locate/frl .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.