Research
Published Papers
Retail Trading in Options and the Rise of the Big Three Wholesalers (with S. Bryzgalova and A. Pavlova).
The Journal of Finance, 78(6), 2023, pp. 3465-3514.
We document a rapid increase in retail trading in options in the U.S. Facilitated by payment for order flow (PFOF) from wholesalers executing retail orders, retail trading recently reached over 60% of the total market volume. Nearly 90% of PFOF comes from three wholesalers. Exploiting new flags in transaction-level data, we isolate wholesaler trades and build a novel measure of retail options trading. Our measure comoves with equity-based retail activity proxies and drops significantly during U.S. brokerage platform outages and trading restrictions. Retail investors prefer cheaper, weekly options, with the average bid-ask spread of a whopping 12.6%, and lose money on average.
Presentations at: AFA 2023, CCAF Annual Conference 2022, CDI Conference on Derivatives 2022, Chicago Fed, NBER Asset Pricing Spring Meeting 2022, NBER Behavioral Finance Meeting 2022, Finance Seminar at London Business School, Florida International University, Kelley School of Business at Indiana University, London Quant Group, Miami Behavioral Finance Conference, NFA 2022, Queen Mary University of London, SEC, Stockholm Business School, Tel Aviv Finance Conference, TMX Group, University of Central Florida, University of Hong Kong, University of Notre Dame, and Virtual Derivatives Workshop.
Media coverage: Bloomberg, Bloomberg Opinion, Bloomberg What Goes Up podcast, FT Letters to the Editor, The Economist, The Wall Street Journal (live), Traders Magazine, Risk.net.
Benchmarking Intensity (with A. Pavlova). The Review of Financial Studies, 36(3), 2023, pp. 859–903. Editor’s Choice.
Benchmarking incentivizes fund managers to invest a fraction of their funds’ assets in their benchmark indices, and such demand is inelastic. We construct a measure of inelastic demand a stock attracts, benchmarking intensity (BMI), computed as its cumulative weight in all benchmarks, weighted by assets following each benchmark. Exploiting the Russell 1000/2000 cutoff, we show that changes in stocks’ BMIs instrument for changes in ownership of benchmarked investors. The resulting demand elasticities are low. We document that both active and passive fund managers buy additions to their benchmarks and sell deletions. Finally, an increase in BMI lowers future stock returns.
Presentations at: Adam Smith Workshop, AFA 2022, ASSA Meetings, EFA 2021, European Winter Finance Conference, Finance Seminar at London Business School, INSEAD Finance Symposium, the Desautels Faculty of Management at McGill University, Midwest Finance Association, NBER Behavioral Finance, Q Group Spring Seminar 2023, SFS Cavalcade North America, University of Bath, Vanguard seminar, Vienna Graduate School of Finance, and World Symposium on Investment Research.
Working Papers
Institutional Investors, Securities Lending, and Short-Selling Constraints
Institutions facilitate short-selling by lending from their holdings, but what they hold is endogenous. This paper examines how institutional demand, driven by investment mandates (benchmarking), affects short-selling. In a model where benchmarked managers lend from their holdings, both lending supply and equilibrium price are higher for the benchmark asset, and so is shorting demand (due to inflated price). A quasi-experiment using Russell index reconstitution shows that stocks with more benchmarked capital have greater lending supply and demand. Ultimately, such stocks are costlier to short. In theory and data, results are driven by incomplete pass-through from institutional holdings to lending supply.
Presentations at: Adam Smith Workshop 2024, ASSA Meetings 2024, Bank of Canada, Columbia Business School, Cornell University, Dauphine Finance PhD Workshop, Duke’s Fuqua School of Business, Finance Seminar at London Business School, FIRS 2024, Harvard Business School, HEC Paris, HEC PhD Workshop on Incentives in Finance, Junior Academic Research Seminar in Finance, London School of Economics, Microstructure Exchange 2023, NFA 2023, NYU Stern School of Business, Purdue University, SAFE Market Microstructure Conference, Stanford Graduate School of Business, TADC 2023, University of Chicago Booth School of Business, USC Marshall PhD Conference in Finance, USC Marshall School of Business, UT Austin McCombs School of Business, Wharton School of the University of Pennsylvania, World Symposium on Investment Research 2024, Yale School of Management.
Received: European Economic Association Econ Job Market Best Paper Award (2023), Top Finance Graduate Award at HEC Paris (2024), AQR Asset Management Institute research grant (2022).
Strategic Arbitrage in Segmented Markets (with S. Bryzgalova and A. Pavlova). Conditionally accepted in The Journal of Financial Economics. A part of this paper was previously circulated under the title “Profiting from Investor Mistakes: Evidence from Suboptimal Option Exercise.”
We propose a model in which arbitrageurs act strategically in markets with entry costs. In a repeated game, arbitrageurs choose to specialize in some markets, which leads to the highest combined profits. We present evidence consistent with our theory from the options market, in which suboptimally unexercised options create arbitrage opportunities for intermediaries. Using transaction-level data, we identify the corresponding arbitrage trades. Consistent with the model, only 57% of these opportunities attract entry by arbitrageurs. Of those that do, 49% attract only one arbitrageur. Finally, our paper details how market participants circumvent a regulation devised to curtail this arbitrage strategy.
Presentations at: AFA 2024, 2024 BI-SHoF conference, 2023 Colorado Finance Summit, EFA 2024, HEC Paris, HKU, HKUST, Indiana University, London Business School, NBER Asset Pricing Fall Meeting 2023, New York Fed, NTU, NUS, NYU, SMU, Stockholm Business School, Temple University, UC Irvine, UCLA, the University of Central Florida, UT Austin, and the 2023 Women in Microstructure meeting.
Media coverage: Risk.net.
Received: Colorado Finance Summit Best Paper Award (2023).
Two APs Are Better Than One: ETF Mispricing and Primary Market Participation (with E. Gorbatikov).
Exchange-traded funds (ETFs) depend on arbitrageurs to correct deviations between a fund’s price and its fair value. ETFs have designated brokers, or authorized participants (APs), who have a unique right to create and redeem ETF shares, and who can thus trade on ETF mispricing without risk. Using novel regulatory filings, we provide the first description of the US ETF-AP network. It has a dense core and a sparse periphery, and the observed creation/redemption volumes are highly concentrated. The level of mispricing in a US equity ETF is negatively related to the fund’s primary market diversity, especially during times of high market volatility. Funds that share more APs exhibit stronger mispricing comovement. We theoretically show that diverse primary markets help mitigate the effect of shocks to AP-specific arbitrage costs. We highlight the importance of AP balance sheet usage costs in ETF markets by exploiting the Federal Reserve’s purchases of bond ETFs in 2020.
Presentations at: AFA 2022, Finance Seminar at London Business School, FMA 2021, Microstructure Exchange 2022, NFA 2021, and YSFC 2022.
Media coverage: Bloomberg.
Work in Progress
Heterogeneous Inflation Expectations and Market Dynamics (with G. Pinter).