Informed Trading in the Stock Market and Option Price Discovery

Pierre Collin-Dufresne, Vyacheslav Fos, and Dmitriy Muravyev

When activist shareholders file Schedule 13D filings, the average stock price volatility drops by about 10%. Prior to filing days, volatility information is reflected in option prices. Using a comprehensive sample of trades by Schedule 13D filers, we show that on days when activists accumulate shares , option implied volatility decreases, implied volatility skew increases, and implied volatility time-slope increases. The evidence is consistent with a theoretical model where it is common knowledge that informed trading occurs only in the stock and market makers update option prices based on stock price and order flow dynamics.

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