The Role of Retail and Institutional Traders in Options Markets

Abstract

This article examines the role of retail and institutional traders in an options market. Using unique data from the Australian Securities Exchange (ASX), trading profits are decomposed into a liquidity part and a position-taking part. Despite the presence of exogenous market makers, both institutional and retail traders derive average gains from supplying liquidity, suggesting that public traders are reluctant to pay for the larger cost of immediacy offered by market makers. Both trader groups incur average losses from price movements unfavorable to their inventory position, indicating that market makers are slightly better at predicting market movements. Overall, the results suggest that retail and institutional traders have similar economic roles.