We uncover robust evidence that anomaly variables predict stock returns when the options on the stocks are heavily traded. For stocks with large option volume, anomalies generate large monthly alpha of 1.53% (t-statistics=4.35), and is mostly attributable to the short-leg. When option volume is low, there is no evidence of anomalous stock returns. We find support for the notion that high option volume captures investor disagreement and amplifies stock overpricing due to investor optimism. Moreover, our findings are not explained by high option volume representing informed trading about the direction of stock price movements.​

JEL Classification: G10, G12, G14
Keywords: anomaly, mispricing, option trading volume, investor disagreement