Stock Volatility and the Levels of the Basis and Open Interest in Futures Contracts

Chen, Nai-Fu; Cuny, Charles J.; Haugen, Robert A.

doi:10.1111/j.1540-6261.1995.tb05174.x

Cited by 68 publications

(38 citation statements)

References 23 publications

(17 reference statements)

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“…Very few research studies have examined the leadlag behaviour between future market depth and spot volatility (Bessembinder & Seguin, 1992, 1993Chen et al, 1995;Yang et al, 2005). (…”

Section: Relationship Between Depth In the Future Market And Spot Volmentioning

confidence: 99%

Agricultural Commodity Trading: Is it Destabilizing Spot Markets?

Gupta¹,

Sehgal

Wadhwa

2018

Vikalpa

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Executive Summary The future trading has been held responsible by certain political and interest groups of enhancing speculative trading activities and causing volatility in the spot market, thereby further spiralling up inflation. This study examines the effect of future of trading activity on spot market volatility. The study first determined the Granger causal relationship between unexpected future trading volume and spot market volatility. It then examined the Granger causal relationship between unexpected open interest and spot market volatility. The spot volatility and liquidity was modelled using EGARCH and unexpected trading volume. The expected trading volume and open interest was calculated by using the 21-day moving average, and the difference between actual and expected component was treated as the unexpected trading volume and unexpected open interest. Empirical results confirm that for chickpeas ( channa), cluster bean ( guar seed), pepper, refined soy oil, and wheat, the future (unexpected) liquidity leads spot market volatility. The causal relationship implies that trading volume, which is a proxy for speculators and day traders, is dominant in the future market and leads volatility in the spot market. The results are in conformity with earlier empirical findings — Yang, Balyeat and Leathan (2005) and Nath and Lingareddy (2008) —that future trading destabilizes the spot market for agricultural commodities. Results show that there is no causal relationship between future open interest and spot volatility for all commodities except refined soy oil and wheat. The findings imply that open interest, which is a proxy of hedging activity, is leading to volatility in spot market for refined soy oil and wheat. The results are in conformity to earlier empirical studies that there is a weak causal feedback between future unexpected open interest and volatility in spot market ( Yang et al., 2005 ). For chickpeas (channa), the increase in volatility in the spot market increases trading activity in the future market. The findings are contrary to earlier empirical evidence ( Chatrath, Ramchander, & Song, 1996 ; Yang et al., 2005 ) that increase in spot volatility reduces future trading activity. However, they are in conformity to Chen, Cuny and Haugen (1995) that increase in spot volatility increases future open interest. The results reveal that the future market has been unable to engage sufficient hedging activity. Thereby, a causal relationship exists only for future trading volume and spot volatility, and not for future open interest and spot volatility. The results have major implications for policymakers, investment managers, and for researchers as well. The study contributes to literature on price discovery, spillovers, and price destabilization for Indian commodity markets.

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“…Very few research studies have examined the leadlag behaviour between future market depth and spot volatility (Bessembinder & Seguin, 1992, 1993Chen et al, 1995;Yang et al, 2005). (…”

Section: Relationship Between Depth In the Future Market And Spot Volmentioning

confidence: 99%

Agricultural Commodity Trading: Is it Destabilizing Spot Markets?

Gupta¹,

Sehgal

Wadhwa

2018

Vikalpa

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“…However, Canina and Figlewski (1993) study the S&P 100 Index options for the period March 15, 1983to March 28, 1987 and document that implied volatility (IV) computed using BlackScholes options pricing formula is inefficient, biased and inferior estimate of market's future volatility forecast, when com pared to historical volatility. Chen, Cuny and Haugen (1995) study the relationship between stock volatility, basis 2 and open interests in futures market using S&P 500 Index. They base their study on the intuition that when volatility increases in the market, inves tors prefer to entice more people in the market for risk shar ing.…”

Section: Introductionmentioning

confidence: 99%

Volatility Informed Trading in the Options Market: Evidence from India

Pathak

2015

Business: Theory and Practice

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The purpose of this paper is to investigate the trading activity in options market based on information about expected future volatility in spot market. We employ Common Implied Volatility as a measure of expected volatility and options volume and changes in Open Interests as measures of options trading activity. We first test for simultaneous information flow in the two markets using multiple regression technique. Next, we test for information based or hedge based use of options using Trivariate Vector-auto Regression framework. We further consider the classes of options moneyness and the market trends in our analysis to examine if the trader’s preference of options changes with change in description of options intrinsic value and market environment. We use daily closing data of S&P CNX Nifty Index options traded on National Stock Exchange, India. We, for the most part, find negative and significant relationship in contemporaneous regression suggesting active trading by arbitrageurs. A feedback relationship is observed in vector auto regression analysis suggesting that options are traded in India for both information based trading and hedging purposes. We also observe the relationship to be varying when market trends and classes of options moneyness are considered. This indicates that traders are not indifferent in their choice of trading venue when market conditions and factors change. The results of this study are helpful for traders in managing the risk and return of their portfolio based on volatility forecast. This study is distinctive as it examines the scarcely researched area of volatility informed trading in an emerging market set up.

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“…Similar to many previous empirical studies on stock index futures, we use the following lag‐3 regression model for the basis:

normalb normala normals normali s_{t} = β_{0} + β_{1} normalb normala normals normali s_{italict normal- 1} + β_{2} normalb normala normals normali s_{italict normal- 2} + β_{3} normalb normala normals normali s_{italict normal- 3} + γ normalv normalo l_{t} + α normalD normalu normalm normalm y_{t},

where the variables are defined as follows: the basis of the index at time

t

; the volatility of the index at time

t

; indicates if there is a change in the margin requirement or the position limit for the index (0, no change; +1, increase;

- 1

, decease). In (10), the volatility and the change in the margin requirement or the position limit are independent variables. The reason we include the volatility as an independent variable is based on earlier works which have shown that it has significant impact on the basis, for example, see Bailey and Stulz (1989), Hemler and Longstaff (1991), and Chen, Cuny, and Haugen (1995). In our empirical study, the volatility of an index is obtained by using the GARCH model based on its daily closing spot prices.…”

Section: Resultsmentioning

confidence: 99%

The impact of trading restrictions and margin requirements on stock index futures

Wang

et al. 2020

Journal of Futures Markets

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Stock index futures in Chinese market have consistently diverged from their theoretical values. In this paper, we try to provide some explanations by proposing an equilibrium model. Although the model itself does not provide analytical solutions, it enables us to conduct extensive numerical studies and compare them with our empirical results on two major Chinese market indices, CSI300 and SSE50. Our results show that the divergence of stock index futures prices from their theoretical values may be due to various trading and regulatory constraints, such as position limits and margin requirements, which play significant roles in Chinese market.

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Stock Volatility and the Levels of the Basis and Open Interest in Futures Contracts

Cited by 68 publications

References 23 publications

Agricultural Commodity Trading: Is it Destabilizing Spot Markets?

Agricultural Commodity Trading: Is it Destabilizing Spot Markets?

Volatility Informed Trading in the Options Market: Evidence from India

The impact of trading restrictions and margin requirements on stock index futures

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