The relative efficiency of commodity futures markets

The ability of futures markets to predict subsequent spot prices has been a controversial topic for a number of years. Empirical evidence to date is mixed; for any given market, some studies find evidence of efficiency, others of inefficiency. In part, these apparently conflicting findings reflect differences in the time periods analyzed and the methods chosen for testing. A limitation of existing tests is the classification of markets as either efficient or inefficient with no assessment of the degree to which efficiency is present. This article presents tests for unbiasedness and efficiency across a range of commodity and financial futures markets, using a cointegration methodology, and develops a measure of relative efficiency. In general, the findings suggest that spot and futures prices are cointegrated with a slope coefficient that is close to unity, so that the postulated long-run relationship is accepted. However, there is evidence that the long-run relationship does not hold in the short run; specifically, changes in the spot price are explained by lagged differences in spot and futures prices as well as by the basis. This suggests that market inefficiencies exist in the sense that past information can be used by agents to predict spot price movements. A measure of the relative degree of inefficiency (based on forecast error variances) is then used to compare the performance of different markets. © 1999 John Wiley & Sons, Inc. Jrl Fut Mark 19: 413–432, 1999     

The market quality of commodity futures markets

To study the market quality of commodity futures markets, we construct a commodity futures market quality index from the perspective of liquidity, efficiency, and volatility. Based on the market quality index, the Chinese commodity futures market operates steadily. The metal futures market is more efficient and stable than the market for agricultural futures. The Chinese commodity futures market is less liquid and more volatile than the U.S. market. We examine the determinants of market quality and find that macroeconomic variables and futures market contracts are significantly related to the market quality of Chinese commodity futures.     

Long memory and structural breaks in commodity futures markets

This study employs daily data for 14 commodities and three financial assets 1990–2009 to explore the impact of the time series properties of the futures‐spot basis and the cost of carry on forward market unbiasedness. The main result is that the basis of 16 assets exhibits both long memory and structural breaks. The long memory in the basis is robust even to the use of break‐adjusted data. It implies that the cost‐of‐carry has long memory which the empirical results confirm using the interest cost as a proxy. These new findings suggest that the forecast error has long memory and are inconsistent with unbiasedness. They could be consistent with a weaker version of market efficiency in the presence of a fractionally integrated, time‐varying risk premium but they could also be rationalized by priced noise trader risk with limits to arbitrage in less than fully efficient markets. © 2010 Wiley Periodicals, Inc. Jrl Fut Mark     

The response of volume and returns to the information shocks in China's commodity futures markets

This study investigates the response of returns and volume to different information shocks in China's commodity futures markets using bivariate moving average representation (BMAR) and bivariate vector autoregression (BVAR) methodologies. Consistent with the conclusions from stock market studies that have used these methodologies, it is found that the informational/permanent components are the dominant components for returns movements, and the noninformational/transitory components are the dominant components for trading volume. It is also found that the market response of copper futures improved during the sample period, and the market responses of actively traded futures (copper and soybeans) are better than those of the less actively traded futures (aluminum and wheat). © 2005 Wiley Periodicals, Inc. Jrl Fut Mark 25:893–916, 2005     

Trading and information in futures markets

This paper studies the trading behavior of different types of traders (customer type indicators [CTI's]) in corn futures. Nonmembers (CTI4) consume most of the intraday liquidity while local traders (CTI1) as market makers are its main provider. Both groups combine most of the intraday trading volume. Interday trading comes mainly from proprietary accounts (CTI2) and other local traders' trades (CTI3), reflecting their longer-term needs for hedging and speculation. Changes in the overnight positions of the general public (CTI4) and clearing members (CTI2) contribute mostly to daily price discovery, while the positions of CTI3 group reflect possible information advantage about future price movements.     

An examination of momentum strategies in commodity futures markets

Commodity futures and equity markets differ in several important respects. Nevertheless, it was found that momentum profits in commodities are highly significant for holding periods as long as 9 months, and returns to momentum strategies are roughly equal in magnitude to those that have been reported in stocks. The profits documented are too large to be subsumed by transactions costs. Although the momentum strategies appear to be quite risky, their profitability cannot be fully accounted for in the context of a market factor model. Further, it is shown that momentum profits eventually reverse if positions are maintained long enough after portfolio formation. © 2007 Wiley Periodicals, Inc. Jrl Fut Mark 27:227–256, 2007     

Asset storability and price discovery in commodity futures markets: A new look

This article examines the price discovery performance of futures markets for storable and nonstorable commodities in the long run, allowing for the compounding factor of stochastic interest rates. The evidence shows that asset storability does not affect the existence of cointegration between cash and futures prices and the usefulness of future markets in predicting future cash prices. However, it may affect the magnitude of bias of futures markets’ estimates (or predictions) for future cash prices. These findings have several important implications for commodity production decision making, commodity hedging, and commodity price forecasting. © 2001 John Wiley & Sons, Inc. Jrl Fut Mark 21:279–300, 2001     

Asymmetric covariance in spot‐futures markets

This article studies how the spot‐futures conditional covariance matrix responds to positive and negative innovations. The main results of the article are achieved by obtaining the Volatility Impulse Response Function (VIRF) for asymmetric multivariate GARCH structures, extending Lin (1997) findings for symmetric GARCH models. This theoretical result is general and can be applied to analyze covariance dynamics in any financial system. After testing how multivariate GARCH models clean up volatility asymmetries, the Asymmetric VIRF is computed for the Spanish stock index IBEX‐35 and its futures contract. The empirical results indicate that the spot‐futures variance system is more sensitive to negative than positive shocks, and that spot volatility shocks have much more impact on futures volatility than vice versa. Additionally, evidence is obtained showing that optimal hedge ratios are insensitive to the well‐known asymmetric volatility behavior in stock markets. © 2003 Wiley Periodicals, Inc. Jrl Fut Mark 23:1019–1046, 2003     

COVID-19 and tail risk contagion across commodity futures markets

This paper examines the impact of COVID-19 on tail risk contagion across commodity futures markets using a copula-based network method. We document a significant increase in the lower and upper tail contagiousness of commodities following the COVID-19 outbreak. Contagion shows an obvious clustering characteristic, that is, there is higher tail risk connectedness between commodities in the same category. Agricultural commodities are significantly less contagious than metals and energy commodities; soft commodities in particular can offer investors significant diversification benefits. There are several hub commodities in the contagion network, chief among them copper, which are good transmitters of shocks and should be treated with caution by investors and regulators. Although tail risk and contagiousness of individual commodities increase together during the pandemic, we find a negative cross-sectional relationship between tail risk and contagiousness, that is, commodities with high tail risk are not necessarily highly contagious and may even be less so.     

Dependence of stock and commodity futures markets in China: Implications for portfolio investment

We examine the recent trends in dependence structure between the fast-growing commodity markets and the stock markets in China. We address this issue by using copula functions that allow for measuring both average and tail dependence. Our results provide evidence of low and positive correlations between these markets, suggesting that commodity futures are a desirable asset class for portfolio diversification. By comparing the market risks of alternative portfolio strategies, we show that Chinese investors can take advantage of commodity futures during different times to realize risk diversification and downside risk reduction benefits.     

The quantile dependence of commodity futures markets on news sentiment

Focusing on energy commodities, industrial metals, and gold, this paper examines the degree to which commodity futures returns depend on news sentiment under various market conditions, and the structure of that dependence. We observe an asymmetric market reaction to positive and negative news sentiment, which changes in periods of financial turmoil. The quantile regression analysis shows that news sentiment's influence on the futures returns follows an upward trend at higher percentiles. This structure flattens for positive news during the global financial crisis, while the slope for the negative component steepens in backwardation periods.     

Valuation of futures and commodity options with information costs

In this article, futures and commodity options are analyzed in the context of Merton's (1987) model of capital market equilibrium with incomplete information. First, following Dusak (1973) and Black (1976), the conditions under which Merton's model can be applied to the valuation of forward and futures contracts are proposed. Then an application to futures markets is given. We provide a partial differential equation and the formulas for European commodity options, futures contracts, and American options in the same context. The models are simulated and compared to standard models with no information costs. We find that model prices are not significantly different from standard model prices. However, our models correct for some pricing biases in standard models. In particular, they reduce the overvaluation bias for European and American commodity options. It seems that the costs of gathering and processing information regarding the option and its underlying asset play a role in explaining the biases observed in standard models. This work can be applied to other futures markets. © 1999 John Wiley & Sons, Inc. Jrl Fut Mark 19: 645–664, 1999