Lower-boundary violations and market efficiency: Evidence from the German DAX-index options market

The informational efficiency of the market for options on the German stock index DAS is examined using intraday transactions data. Problems of previou s studies on options-market efficiency, arising from dividend estimation an d the early-exercise effect, are avoided, because the DAX is a performance index and DAX options are European options. Ex-post and ex-ante tests are c arried out to simulate trading strategies that exploit irrational lower-bou ndary violations of observed option prices. Because the lower-boundary cond itions are solely based on arbitrage considerations, the test results do no t depend on the assumption that investors use a particular option-pricing m odel. The investigation shows that ex-post profits are, in general, dramati cally reduced when the execution of arbitrage strategies is delayed and/or transaction costs are accounted for. However, arbitrage restrictions, which rely on short selling of the component stocks of the index, tend to be vio lated more often and with higher persistence. An analysis of consecutive su bsamples suggests that, over time, traders have been subjected to a learnin g process when pricing this relatively new instrument. (C) 2000 John Wiley & Sons, Inc.