Options Trading and Corporate Innovation

Innovation is the main engine for economic growth. It plays an important role for a business to keep its competitive advantage and compete effectively in international markets (Porter, 1992). However, innovation is vulnerable to agency problems arising from information asymmetry (Arrow, 1962). Prior literature suggests that options trading improve information efficiency. Built on this line of literature, we examine the impact of options trading on corporate innovation. If options trading enhances information efficiency hence mitigates managerial myopia induced by information asymmetry, We expect that managers in firms with active options trading are more willing to invest in long-term innovative projects even such actions hurt firms' short term performance. Specifically, we hypothesize that options have a positive effect on corporate innovation because they stimulate informed trades and enhance price efficiency. Furthermore, we expect that the positive effect is more pronounced in firms having high information asymmetry, firms operating in more competitive product market, and firms operating in the industries in which innovation is more difficult to achieve. The proposed project contributes to the emerging literature on the economic consequences of options trading and also adds to the literature on identifying factors that affect corporate innovation.