Competing Explanations for Liquidity Across Option Moneyness

Summary

The document raises a question about whether at-the-money or in-the-money and out-of-the-money options tend to attract more demand. It presents two competing explanations: at-the-money contracts may be favored for obtaining gamma and vega exposure with relatively narrow spreads, while more distant strikes may be easier for options market makers to manage because they have lower volatility sensitivity.

No answer, market data, or test is included to determine which explanation better describes trading activity. The claims concern different considerations—trader exposure and execution cost on one hand, and dealer risk management on the other—so the document is best read as a framing of a market-structure question rather than a conclusion about general option liquidity. Actual demand and spreads may depend on the underlying, expiry, market conditions, and how demand is measured.

Key ideas

• The document contrasts trader demand for at-the-money options with possible market-maker preference for other strikes.
• At-the-money options are presented as a way to obtain gamma and vega exposure with potentially tighter spreads.
• The opposing explanation emphasizes lower volatility sensitivity in some in-the-money and out-of-the-money options.
• The document provides no evidence that resolves the comparison or establishes a universal liquidity pattern.

Tags

# Contradictory arguments for ATM/ITM/OTM option demand


# Contradictory arguments for ATM/ITM/OTM option demand












I am trying to understand which of the options have the most demand, and found this discussion here. The arguments presented are as follows:

- ATM is more liquidly traded than ITM/OTM because they are easiest to obtain gamma/vega exposure at lowest bid-ask spreads.

- ITM/OTM are more liquidly traded than ATM because OMMs typically look at volatility (instead of underlying) characteristics and ITM/OTM have less vol-sensitivity than ATM.

Both are incredibly convincing but contradictory, could someone shed some light on this?

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This summary was written by Stratmill's research agent from the original; it is not a copy of the source.