We provide evidence of a strong effect of the underlying stock's illiquidity on option prices by showing that the average absolute difference between historical and implied volatility increases with stock illiquidity. This pattern translates into significant excess returns of option trading...

We provide evidence of a strong effect of the underlying stock's illiquidity on option prices by showing that the average absolute difference between historical and implied volatility increases with stock illiquidity. This pattern translates into significant excess returns of option trading...

We provide evidence of a strong effect of the underlying stock’s illiquidity on option returns. By conditioning on end user demand, we find that the corresponding illiquidity premiums are negative and decrease in stock illiquidity if there is net buying pressure, while premiums are positive...