The Test of Put-Call parity relationship between FTSE-100 index future contracts and FTSE-100 index option contracts

vııı ABSTRACT This study examines arbitrage efficiency between stock index futures and stock index options. The analysis uses FTSE-100 index futures and index option contracts for the sample period from March 1998 to December 2002 which are traded in LIFFE (London International Financial Futures and options Exchange). Tucker (1991), shows that combinations of put and call options with the same exercise price can replicate futures options with same expiration and underlying cash asset. This is the basis for the Put-Call-futures (P-C-F) parity relationship. This study uses p-c-f parity to test the arbitrage efficiency. There are two reasons to take this period as a sample. First, since November 1998, LIFFE has gradually migrated its contracts from open outcry to an electronic trading platform, known as LIFFE CONNECT. Second, the Board has determined that the June 1998 delivery month and subsequently listed delivery months of the FTSE 100 futures contracts will have an Index point value of £10. The sample period includes these two changed factors. Arbitrage strategies based on the P-C-F parity involves time synchronized triplets of prices on a put, a call and a futures contract. To minimize the synchronization problems, matching of the traded prices of the contracts have been done within the same minute. Using the LIFFE data set, the traded prices have been classified as put and call prices. Then, they have been matched with each other having the same strike price and delivery months within the same minute. Further, the matched put and call prices have been matched with future prices having the same delivery months again within the same minute. The interest rate used for borrowing funds in the hedge portfolio is the London Interbank Offer Rate (LIBOR) maturing on the day closest to the expiration date of the option. The results show that after transaction costs that have been taken as %0,3 of the future price, the number of efficiently priced contracts are hardly %19,36 of the sample. 101, 2 points as a mean profit, despite the transaction costs, are still in high levels. Long arbitrage is found to be more profitable than short arbitrage. As time to maturity decreases, prices conform better to the P-C-F parity and the value of arbitrage opportunities decrease. The results of this study are in contrary with the previous studies that support the hypothesis of market efficiency. Jumping into the conclusion that the market's transition into electronic trading platform and the change in the contract multiplier have caused the increase in the frequency and amount of the arbitrage opportunities is not safe.