Speculation spillovers
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Speculation Spillovers. Outline. 1. Motivation. 2. Results. 3. Empirical Investigation. 4. Conclusion. Motivation. Derivatives. Stabilization. Destabilization. Derivatives traders are rational and sophisticated. The impact of derivatives. Low cost High margin High liquidity.

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1. Motivation

2. Results

3. Empirical Investigation

4. Conclusion




Derivatives traders are rational and sophisticated

  • The impact of derivatives

  • Low cost

  • High margin

  • High liquidity

  • Danthine (1978)

  • Turnovsky (1983)

  • Etc…

  • Stein (1987)

  • Kraus and Smith (1996)

  • Etc…

Source: Xiong and Yu (2010)

Source: Xiong and Yu (2010)


  • Heath et al. (1999), Poteshman (2001), Horst and Veld (2008), Haigh and List (2005), Liu, Wang, and Zhao (2010)

  • Behavioral bias exits in derivatives markets

Xiong and Yu (2010)

Other studies


  • What are the impacts of behavioral biases in derivatives trading on the underlying asset?

  • The increased stock trading cannotbe fullyexplained by reasons such as information and hedging.

  • The underlying stocks are traded significantly more after the introduction of warrants, and the stocks are traded more extensively when the warrant speculation is more severe.

  • Speculation spillovers

Research question

Main findings

  • Our results suggest that the resale option value of stocks increases with warrant bubbles

  • Resale option theory

    • Miller (1977), Harrison and Kreps (1978), and Scheinkman and Xiong (2003)

    • Two conditions: Heterogeneous beliefs and short-sale constraint

    • Overvaluation

  • A lack of knowledge about warrants contributes to the dispersion of beliefs among stock investors. (Harris and Raviv (1993) and Kandel and Pearson (1995))

  • Limited attention caused by warrants introduction. (Sims (2003),

  • Hirshleifer and Teoh (2003), Peng and Xiong (2006), Barber and Odean (2008), Hou, Peng, and Xiong (2009), Yuan (2008))

  • Short-sale constraint

  • Our explanation

Resale option theory

The links

Empirical investigation

Empirical investigation investors’ beliefs is more pronounced.

  • WIND investors’ beliefs is more pronounced.

  • We collect the complete observations of 50 warrants that are listed in Shanghai Stock Exchange and Shenzhen Stock Exchange between August 2005 and June 2008

  • Warrant: warrants turnover, IPD, duration, covered or not, put dummy, etc…

  • Stock: stock turnover, liquidity, size, etc…

  • Market turnover, industry

  • Turnover and IPD are de-trended

  • Data I



  • Data II investors’ beliefs is more pronounced.

Mainland vs. Hong Kong


  • Data III investors’ beliefs is more pronounced.


  • Event study investors’ beliefs is more pronounced.

  • We formulate three pre-event periods, i.e., (-45, -15), (-90, -30), and (-180, -30), and

  • three symmetric post-event periods around event day 0.

  • The Introduction of warrants I


Result I


Result II


  • Speculation spillover




  • Coefficients before put dummy are significantly negative

  • Hedge ratio has positive sign

  • Still, IPD and warrants turnover are significantly positive

  • Why not a sample with no concern of information and hedging?

  • Information and hedging




  • Deep-out-of-the-money put warrants




  • If the story of the resale option holds, where should we see stronger speculation spillover effect?

    • Smaller asset float: Hong, Scheinkman and Xiong (2006) develop a model to show that asset float (the number of tradable shares) has a large effect on the size of bubble. The implication is that there exists a negative relationship between resale option value and asset float.

    • Bull/Bear market: When the market is dominated by optimistic investors, it is easier to drive out pessimists. The resale option value is higher (Harrison and Kreps (1978), Morris (1996), Scheinkman and Xiong (2003), and Hong, Scheinkman and Xiong (2006)).

  • Behavioral explanation

Test of the resale option story







Conclusion see stronger speculation spillover effect?

  • Conclusion see stronger speculation spillover effect?

Main Findings

  • We find a speculation spillover effect between warrants market and stock market

  • We argue that the speculation spillover may be the result of increased behavioral biasesin stock trading introduced by the warrant bubble.

  • Our study provides a test of the resale option theory by examining the exogenousinfluence of warrant speculations on stock trading.

  • Our findings encourage more discussion on the design of financial derivatives in thefinancial market.

Thank you

Thank you see stronger speculation spillover effect?