Losing is Optional : Retail Option Trading and Earnings Announcement Volatility

We document the growth of retail options trading over time and provide evidence that retail investors are drawn to options by anticipated spikes in volatility. Using data on options trades by clientele groups, we show retail investors purchase options in a concentrated fashion before firms' earnings announcements, particularly those expected to trigger greater abnormal volatility. In doing so, retail investors engage in a trio of wealth-depleting behaviors: they overpay for options relative to realized volatility, incur enormous bid-ask spreads, and are slow to respond to predictable post-announcement declines in volatility. This combination of behaviors translates to retail losses of 5-to-9% around earnings announcements on average, and 10-to-14% for high expected volatility announcements. Market makers are the primary beneficiaries of these patterns, particularly in recent years coinciding with the COVID pandemic, resulting in large capital flows from retail to market makers