Abstract
While the standard to calculate model-free option-implied skewness (MFIS) relies on out-of-the-money (OTM) options, we examine the empirical and economic implications of using in-the-money (ITM) options. We find that the positive short-term return predictability of OTM-based MFIS significantly reverses if ITM-options are used instead. While this reversal is inconsistent with an explanation based on skewness preferences, MFIS apparently reflects information that is not timely incorporated in stock prices due to market frictions. Based on these insights, we introduce ΔMFIS as a new measure of additional option-embedded information that significantly predicts subsequent returns beyond a large range of other option-based return predictors.
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