Derivatives and market (il)liquidity

• Main Authors: HUANG, Shiyang, YUESHEN, Bart Zhou, ZHANG, Cheng
• Format: text
• Language: English
• Published: Institutional Knowledge at Singapore Management University 2024
• Subjects: derivatives; liquidity measure; liquidity risk premium; options; price impact; price reversal; Finance and Financial Management; Portfolio and Security Analysis
• Online Access: https://ink.library.smu.edu.sg/lkcsb_research/7282; https://ink.library.smu.edu.sg/context/lkcsb_research/article/8281/viewcontent/DerivativesMarketilliq_sv.pdf
• Institution: Singapore Management University

We study how derivatives (with nonlinear payoffs) affect the underlying assets liquidity. In a rational expectations equilibrium, informed investors expect low conditional volatility and sell derivatives to the others. These derivative trades affect different investors utility differently, possibly...