Deviations from put-call parity and earnings announcement returns
Atılgan, Yiğit (2010) Deviations from put-call parity and earnings announcement returns. (Preprint)
Prior research documents that deviations from put-call parity can predict stock returns. If the trading activity of informed investors is an important driver of deviations from put-call parity, then the predictability of stock returns should be more pronounced during major information events. This paper investigates whether the predictability of equity returns by deviations from put-call parity is stronger during earnings announcement periods. These deviations are measured by the implied volatility spreads between pairs of matched put and call options. During a two-day earnings announcement window, the abnormal returns to a portfolio that buys stocks with relatively expensive call options is about 2 percent greater than the abnormal returns to a portfolio that buys stocks with relatively expensive put options. This result is robust after (i) measuring deviations from put-call parity in alternative ways, (ii) using value-weighted portfolio returns, and (iii) controlling for contemporaneous and lagged risk factors and lagged stock returns. The degree of announcement return predictability is stronger when (i) deviations from put-call parity are measured using more liquid options, (ii) information environment is more asymmetric, and (iii) stock liquidity is low.
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