Hedging Costs, Liquidity, and Inventory Management:The Evidence from Option Market Makers

• 作 者: Wei-Shao Wu Yu-Jane Liu Yi-Tsung Lee Robert C.W. Fok
• 机 构: New HuaDu Business School,Minjiang University,Fuzhou 350108,People’s Republic
• 出 处: 浙江工商大学
• 发表日期: 2012年6期
• 关键词: bid-ask spreads hedging costs inventory management liquidity market making

　　Hedging the risk of holding undesired inventory is very important for market makers.Accordingly,the inventory positions of market makers are a critical factor in determining hedging costs.However,prior studies seldom capture the role of market makers’ inventory positions in measuring hedging costs.This oversight can result in the inaccurate estimation of the impact of hedging costs on asset liquidity and the failure to shed light on the implications of hedging activity for inventory management.This study measures hedging costs directly using data on inventory positions of market makers in the Taiwan Index Options market.The unique data set allows us to break down rebalancing costs into two components: rebalancing costs due to inventory changes and rebalancing costs due to delta changes.Contrary to prior studies on stock options,we find rebalancing costs are more important than initial hedging costs in explaining option spreads.Our findings underscore the importance of inventory management.