Effect of Speculators’ Position Changes on the LME Futures Market

Abstract

This paper employs Granger causality tests to analyze the role of speculators using weekly COTR (commitment of traders reports) data covering the period of August 2014 to July 2017. The paper presents statistically significant evidence that the position changes of speculators, such as hedge funds and CTAs (commodity trading advisors), unidirectionally Granger-cause the prices of base metals, such as aluminum, copper, and zinc. This finding is a result of causality going from the levels of net futures positions of money managers to futures price changes on the London Metal Exchange (LME). However, producers’ and swap dealers’ speculative roles in price-formation are rejected in Granger causality tests. This paper presents clear results with important market implications.

Direct Effect of TC on the LME Copper Prices

“…Oversupplied concentrates in the copper mine increase smelting capacity utilization, which increases TC and refines copper quantity quickly. This stylized fact intensifies speculative investment flows, such as hedge funds and commodity funds, so that LME copper price is affected by this market expectation (Park 2019b). The rigorous negative relationship may give commodity traders arbitrage possibilities.…”

“…First, Canarella and Pollard (1986) and MacDonald and Taylor (1988) found that the LME was efficient, while Otto (2011) and Park and Lim (2018) found opposing results. Second, Park (2019b) presented statistically significant evidence that the speculators Granger-caused the prices of base metals. Third, Figuerrola-Ferretti and Gilbert (2008) examined copper volatilities, while Park (2018) provided the evidence of volatility transmission between oil and LME.…”

“…These sequential investors' reactions have been strengthening through the market expectation, with the speculation trading action of commodity funds. This may convince traders, analysts and index investors who have attributed metal price direction to speculation that the fundamentals have indeed been improving (Park 2019b). The question may be arising: What is the relationship between TC and price in copper price?…”

The Role of Canceled Warrants in the LME Market

“…They found that some indications of financialization in the copper price explained the price dynamics using the VAR model. Park (2019) employed Granger causality tests to analyze the role of speculators using weekly COTR (Commitment of Traders Reports) data, and presented statistically significant evidence that the position changes of speculators, such as hedge funds, Granger-cause the prices of base metals, such as aluminum, copper and zinc among the six base metals.…”

“…Recent years have seen a rapid growth in the participation of investors in the commodity market, in what is being called the 'financialization' of commodity markets (Cheng and Xiong 2014). This phenomenon has occurred where the commodity markets have become important, as institutional investors have come to regard commodities as an alternative asset class (Park 2019). Tang and Xiong (2012) concluded that the financialization of commodity markets through institutional investors' index funds has significantly impacted market dynamics and volatilities in commodity markets.…”