Enhanced indexation using both equity assets and index options

ArXiv ID: 2508.21192 “View on arXiv”

Authors: Cristiano Arbex Valle, John E Beasley

Abstract

In this paper we consider how we can include index options in enhanced indexation. We present the concept of an \enquote{“option strategy”} which enables us to treat options as an artificial asset. An option strategy for a known set of options is a specified set of rules which detail how these options are to be traded (i.e.bought, rolled over, sold) depending upon market conditions. We consider option strategies in the context of enhanced indexation, but we discuss how they have much wider applicability in terms of portfolio optimisation. We use an enhanced indexation approach based on second-order stochastic dominance. We consider index options for the S&P500, using a dataset of daily stock prices over the period 2017-2025 that has been manually adjusted to account for survivorship bias. This dataset is made publicly available for use by future researchers. Our computational results indicate that introducing option strategies in an enhanced indexation setting offers clear benefits in terms of improved out-of-sample performance. This applies whether we use equities or an exchange-traded fund as part of the enhanced indexation portfolio.

Keywords: Option Strategies, Enhanced Indexation, Stochastic Dominance, Portfolio Optimization, Index Options, Derivatives

Complexity vs Empirical Score

• Math Complexity: 7.0/10
• Empirical Rigor: 8.0/10
• Quadrant: Holy Grail
• Why: The paper uses advanced mathematical concepts like second-order stochastic dominance (SSD) and linear programming formulations for portfolio optimization, indicating high math complexity. It also features strong empirical rigor with a specific dataset (2017-2025 S&P 500, manually adjusted for survivorship bias), public data sharing, and out-of-sample performance results.

  flowchart TD
    A["Research Goal: Enhance indexation<br>using equity assets and index options"] --> B["Develop Option Strategy Concept<br>Rules for trading options as artificial assets"]
    B --> C["Data: S&P 500 Options & Stocks<br>2017-2025 (Bias-adjusted)"]
    C --> D["Methodology: Second-order<br>Stochastic Dominance Optimization"]
    D --> E["Compute Out-of-Sample<br>Portfolio Performance"]
    E --> F{"Evaluate Results"}
    F -->|Outcomes| G["Key Findings:<br>1. Option strategies significantly improve out-of-sample performance<br>2. Applicable to equities & ETFs<br>3. Robust approach for portfolio optimization"]