Illiquidity and Higher Cumulants

AuthorS. Malamud, S. Glebkin, A. Teguia
JournalReview of Finance
Date17 mai 2023
CatégorieAcademic Publications
Volume36(5)
Page numbers2131–2173

We characterize the unique equilibrium in an economy populated by strategic CARA investors who trade multiple risky assets with arbitrarily distributed payoffs. We use our explicit solution to study the joint behavior of illiquidity of option contracts. Option bid-ask spreads are proportional to risk aversion and risk-neutral variances of option payoffs. Spreads may decrease in risk aversion, physical variance, open interest, and increase after earnings announcements in a result contrary to conventional wisdom. All these predictions are confirmed empirically using a large panel data set of U.S. stock options.