X. Wesley Wang, Q. Lei: Volatility Spread and the Stock Market Response to Earnings Announcements

January 18, 2015

Using a broad sample of earnings announcements, we find that option call and put implied volatilities become increasingly misaligned as the earnings announcement dates (EAD) get closer. The percentage deviation between call and put implied volatilities increases monotonically in the one-month period leading up to the EAD. In addition, the direction of these deviations is consistent with the announcement returns of such earnings releases. More importantly, by adapting the earnings response coefficient (ERC) framework, we find that pre-earnings option trading actually increases rather than decreases the stock market response to the earnings announcements.