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The impact of position limits on options trading

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  • Switzer, Lorne N.
  • Tu, Qiao

Abstract

We provide new evidence on the effects of position limits on options for ETFs on the S&P 500 (SPY contracts), based on market reactions to the pilot program (amendment to CBOE Rule 4.11), whereby position limits were temporarily suspended. Removal of position limits during the pilot period did not harm the underlying markets in terms of volatility. While option volume shocks enhance SPY return volatility shocks, these effects are alleviated when position limits are suspended. Furthermore, during the pilot period, price efficiency improved, based on the market tracking performance of the ETFs.

Suggested Citation

  • Switzer, Lorne N. & Tu, Qiao, 2024. "The impact of position limits on options trading," Finance Research Letters, Elsevier, vol. 61(C).
    • Handle: RePEc:eee:finlet:v:61:y:2024:i:c:s1544612323013417
    DOI: 10.1016/j.frl.2023.104969
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    References listed on IDEAS

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    1. Robert A. Jarrow, 2008. "Market Manipulation, Bubbles, Corners, and Short Squeezes," World Scientific Book Chapters, in: Financial Derivatives Pricing Selected Works of Robert Jarrow, chapter 6, pages 105-130, World Scientific Publishing Co. Pte. Ltd..
    2. Bessembinder, Hendrik & Seguin, Paul J., 1993. "Price Volatility, Trading Volume, and Market Depth: Evidence from Futures Markets," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 28(1), pages 21-39, March.
    3. Hans R. Dutt & Lawrence E. Harris, 2005. "Position limits for cash‐settled derivative contracts," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 25(10), pages 945-965, October.
    4. Bessembinder, Hendrik & Seguin, Paul J, 1992. "Futures-Trading Activity and Stock Price Volatility," Journal of Finance, American Finance Association, vol. 47(5), pages 2015-2034, December.
    5. Chang, Ya-Kai & Chen, Yu-Lun & Chou, Robin K. & Gau, Yin-Feng, 2013. "The effectiveness of position limits: Evidence from the foreign exchange futures markets," Journal of Banking & Finance, Elsevier, vol. 37(11), pages 4501-4509.
    6. Switzer, Lorne N., 2023. "Circumventing SEC Rule 201 short sale restrictions with options," Finance Research Letters, Elsevier, vol. 55(PB).
    Full references (including those not matched with items on IDEAS)

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    More about this item

    Keywords

    Option trading; Position limits; Informational efficiency; Volatility;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation

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