Option prices and disclosure

In this paper, I develop an option-pricing model that formally incorporates a disclosure event. The model suggests that an understanding of a firm’s disclosure policies can aid in effi ciently pricing its options. The reason is that these policies impact the distributions of jumps in the firm’s equity price, which affect the expected payoff to the firm’s options. Specifically, I find that 1) more informative disclosures lead to greater volatility in the firm’s equity price upon their release, raising pre-disclosure option prices and 2) disclosures that are more informative for good-versus-bad news lead to skewness in the firm’s equity price upon their release, adjusting the relative pre-disclosure prices of out-of-the-money and in-the-money options. The magnitude of these effects depends upon investors’uncertainty and the extent of systematic versus idiosyncratic information contained in the disclosure. Using these results, I develop measures of a disclosure’s properties based on option prices that may be calculated on an event-specific basis. ∗I thank seminar participants at the University of Pennsylvania, my dissertation committee: Paul Fischer, Mirko Heinle, Cathy Schrand, and Robert Verrecchia (chair), as well as Chris Armstrong, Michael Carniol, Itay Goldstein, John Kepler, Richard Kihlstrom, Rick Lambert, Tanya Paul, Phillip Stocken, and Dan Taylor for helpful comments and suggestions.