Taming the Option Factor Zoo: A High-Dimensional Analysis

Abstract

Option-implied factors are largely, but not entirely, spanned by the equity factor zoo. We construct 137 option-implied characteristics for optionable U.S. stocks from 2004 to 2023, screen them to 20 representative long-short factors, and test each against 160 equity factors with the double-selection LASSO of Feng, Giglio, and Xiu (2020). In-sample, the equity factors account for about 91% of the option factors' variance, and adding the option factors does not significantly raise the maximum Sharpe ratio. Individually, however, 8 of the 20 option factors, mainly measures of jump tails, kurtosis, and implied-volatility convexity, have non-zero SDF loadings after controlling for the equity zoo, and 4 remain significant after a Bonferroni correction. Options thus add a few pricing-relevant dimensions rather than a new factor zoo.