Abstract
Despite the importance of the London markets and the significance of the relationship for market makers,
little published research is available on arbitrage between the FTSE‐100 Index futures and the
FTSE‐100 European index options contracts. This study uses the put–call–futures parity
condition to throw light on the relationship between options and futures written against the FTSE Index. The
arbitrage methodology adopted in this study avoids many of the problems that have affected prior research on the
relationship between options or futures prices and the underlying index. The problems that arise from
nonsynchroneity between options and futures prices are reduced by the matching of options and futures prices
within narrow time intervals with time‐stamped transaction data. This study allows for realistic trading
and market‐impact costs. The feasibility of strategies such as execute‐and‐hold and early
unwinding is examined with both ex‐post and ex‐ante simulation tests that take into consideration
possible execution time lags for the arbitrage trade. This study reveals that the occurrence of matched
put–call–futures trios exhibits a U‐shaped intraday pattern with a concentration at both open
and close, although the magnitude of observed mispricings has no discernible intraday pattern. Ex‐post
arbitrage profits for traders facing transaction costs are concentrated in at‐the‐money options.
As in other major markets, despite important microstructure differences, opportunities are generally rapidly
extinguished in less than 3 min. The results suggest that arbitrage opportunities for traders facing transaction
costs are small in number and confirm the efficiency of trading on the London International Financial Futures
and Options Exchange. © 2002 John Wiley & Sons, Inc. Jrl Fut Mark 22:31–58, 2002