The information in equity option prices around earnings announcements

This dissertation consists of two essays, which investigate the information in equity option prices around earnings announcements. In the first essay, I examine the put-call parity boundary violations around earnings announcements.;In the presence of limited arbitrage, put-call parity violations arise when the stock price deviates from its implied price in the options market. When the firm announces its quarterly earnings the market updates its belief about the true value of the firm by trading in stocks and options. If informed investors trade first in the options market, then the stock price will deviate from its implied price in the options market. Consistent with informed investors trading first in the options market, I find that there is a significant increase in the percentage of put-call parity violations on the earnings announcement day. Also the increase in violations is greatest for firms that are difficult to value such as high growth firms. These violations predict reversals in stock returns, which indicate that option market investors are more informed than stock market investors. The results remain significant even after taking into account the effects of transaction costs and illiquidity.;In the second essay, we study how the investors' rational reaction can explain the return-variance relation upon arrival of information. When the investors' prior belief is negatively skewed, a negative news will increase the uncertainty, while a positive news will decrease it. We take this argument to the cross-sectional data of stock returns and option-implied variances around earnings announcements. We find that the relation between stock returns and the idiosyncratic option-implied variances in receipt of earnings news is well predicated by the shape of the risk neutral density. Most of the stocks exhibit negatively skewed implied densities, therefore on average we see a negative return-variance relation. Moreover, this effect is stronger on earnings announcement days than on non-announcement days, lending further support to the importance of the investors' belief updating in explaining the return-variance relation.