Project Details
Projekt
Characterizing Asset Pricing Anomalies
Subject Area
Accounting and Finance
Term
since 2021
Project identifier
Deutsche Forschungsgemeinschaft (DFG) - Project number 447617473
Our project examines the economic mechanisms behind asset pricing anomalies, i.e., systematic patterns in average stock returns. The focus lies on the role of capital market frictions and investor trading behavior in stock and options markets. The intermediary asset pricing theory suggests that capital constraints for financial intermediaries are a key factor in explaining the cross-sectional variation in average stock returns. However, the asset pricing literature also discusses various other frictions that may contribute to the persistence of anomalies, including liquidity and short-sale constraints. The central idea of our project is based on the observation that investors can trade against anomalies not only in the stock market but also in the options market by purchasing options portfolios that replicate the desired stock positions. Stock and options markets are affected by different frictions to varying degrees. We compare stock prices with the prices of the replicating options portfolios and analyze how these price differences relate cross-sectionally to anomaly signals. The demand-based option pricing theory suggests that demand pressure from option end users can influence option prices when market makers cannot perfectly hedge their positions. We find that anomalies in options markets are, on average, smaller than in stock markets. This indicates that investors on average demand options that allow them to profit from anomalies. Moreover, we observe that the difference in anomaly magnitudes between stock and options markets is particularly pronounced when capital constraints for intermediaries are especially tight. In the second funding phase, we aim to determine whether supply or demand changes drive this pattern. On the one hand, large financial intermediaries may contribute less to stock market efficiency in times of capital scarcity, leading to increased stock mispricing and higher demand for options on mispriced stocks. Alternatively, these financial intermediaries might reduce the supply of options in their role as market makers when their equity capital resources are constrained. Another focus of our project is the investigation of information frictions as a potential origin of mispricing. When market participants develop incorrect expectations about future cash flows due to limited access to information, this can lead to systematic price distortions. In this context, we analyze the role of financial intermediaries, particularly analysts and their forecasting errors. A large body of research shows that such errors in analysts’ earnings forecasts are systematically related to stock returns. Our goal is to better understand the impact of these forecasting errors on the emergence of asset pricing anomalies.
DFG Programme
Research Units
