Commodity volatility breaks

Volatility is a key determinant of derivative prices and optimal hedge ratios. This paper examines whether there are structural breaks in commodity spot return volatility using an iterative cumulative sum of squares procedure and then uses GARCH (1,1) to model volatility during each regime.The main empirical finding is the very limited evidence of commodity volatility breaks during the recent financial crisis. This suggests commodity return volatility was not exceptionally high during the recent financial crisis compared to the 1985–2010 sample period as a whole. For many commodities there are multiple idiosyncratic breaks in volatility; this suggests commodity specific supply or demand factors are important determinants of volatility. The empirical results overall are consistent with the view that commodities are too diverse to be considered as an asset class. Finally, we find commodity volatility persistence remains very high for many commodity returns even after structural breaks are accounted for.