Discussion Paper Series 2006-E-9

The Arbitrage Efficiency of Nikkei 225 Options Market:
A Put-call Parity Analysis

Steven Li

This paper is concerned with arbitrage efficiency of the Nikkei index option contracts traded on the Osaka Securities Exchange (OSE) within the put-call parity (PCP) framework. A thorough ex post analysis is first carried out. The results reveal a modest number of violations with 2.74% of the sample breaching the PCP equation and an average arbitrage profit of 22.61 index points for OSE member firms during the sample period (2003-05). Ex ante tests are then conducted whereby ex post profitable arbitrage strategies, signified by the matched put and call contracts, are executed with lags of 1 minute and 3 minutes. The ex ante results reveal that the number of profitable arbitrage opportunities and the average profit are both reduced significantly with an execution lag. In addition, regression analysis is used to provide further evidence about the PCP and arbitrage profitability. Overall, there is no strong evidence found against the efficiency of the Nikkei 225 options market, though arbitrage opportunities do exist occasionally.

Keywords: Put-call parity, market efficiency, Nikkei 225 options

Views expressed in the paper are those of the authors and do not necessarily reflect those of the Bank of Japan or Institute for Monetary and Economic Studies.

Copyright © 2006 Bank of Japan All Rights Reserved.

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