Box Spread Arbitrage Profits and the 1987 Market Crash

Abstract

We examine the riskless box spread trading strategy before and after the 1987 Market Crash using intraday data for S&P 500 Index (SPX) options. We find that the Crash had a significant impact on trading profitability. Before the Crash, apparently profitable trading opportunities were rare and simulated trades based on such opportunities were unprofitable. For approximately three weeks after the Crash, however, apparently profitable trading opportunities occurred frequently and the corresponding simulated trades produced arbitrage profits. These post-Crash profits accompanied an increased bid-ask spread and a decreased number of trades and price quotes, suggesting increased uncertainty on the part of traders regarding the value of the S&P 500 Index. Nonetheless, traders apparently stood by their quotes--in the post-Crash period, all trades occurred within the bid-ask spread and the number of contracts per trade did not drop substantially from its pre-Crash level.

JEL Classification: G13, G14