The importance of global economic policy uncertainty in predicting gold futures market volatility: A GARCH‐MIDAS approach

Abstract

This paper applies the GARCH‐MIDAS model to examine whether information contained in global economic policy uncertainty (GEPU) can help to predict short‐ and long‐term components of the gold futures return variance. Our results show that GEPU positively and significantly forecasts the future monthly volatilities for the aggregate global gold futures market. The forecasting power of GEPU remains strong in an out‐of‐sample setting. Moreover, further out‐of‐sample tests show that the GARCH‐MIDAS model with GEPU and realized volatility outperforms all other specifications, indicating that including low‐frequency GEPU information in the GARCH‐MIDAS model significantly enhances the forecasting ability of the model.

Intermediary asset pricing in commodity futures returns

“…This is not surprising because natural gas can be seen as a substitute for crude oil and gold is a counter‐cyclical commodity characterized by risk‐aversion and hedging capabilities, in contrast to speculative commodities. As an important precious metal, gold has played a special role as a store of value for centuries, particularly in times of high uncertainty, and it acts as a classic safe‐haven and hedging investment (Fang, Chen, Yu, & Qian, 2018).…”

Economic policy uncertainty, CDS spreads, and CDS liquidity provision

“…They demonstrate that uncertainty commands an equity risk premium, especially during weaker economic conditions. Others have linked EPU with the effectiveness of monetary policy (Aastveit, Natvik, & Sola, 2013), economic recessions (Stock & Watson, 2012), merger and acquisition activities (Bonaime, Gulen, & Ion, 2018;Nguyen & Phan, 2017), aggregate bank credit growth (Bordo et al, 2016), bank liquidity creation (Berger, Guedhami, Kim, & Li, 2017), daily jumps in stock and bond markets (Baker, Bloom, & Davis, 2015), gold futures market volatility (Fang, Chen, Yu, & Qian, 2017), corporate credit spreads (Kaviani, Kryzanowski, Maleki, & Savor, 2017), mutual fund flow-performance sensitivity (Starks & Sun, 2016), the time series predictability of momentum profits (Gu, Sun, Wu, & Xu, 2016), and stock market participation (Agarwal, Aslan, & Ren, 2017). Brogaard and Detzel (2015) find that policy uncertainty positively forecasts the equity risk premium and argue that EPU is an economically important risk factor for equities.…”

Should Gold Be Held Under Global Economic Policy Uncertainty?

“…Bilgin et al (2018) present that the deterioration of GEPU will raise the price of gold and the improvement of it is less likely to make the price of gold fall. Fang et al (2018) prove that GEPU can significantly improve the forecast accuracy of GP, which means GEPU is an indicative indicator of GP. Wu, Tong, Yang, and Derbali (2019) suggest that gold can be used as the weak hedge and safe-haven against EPU in most cases.…”

“…The higher EPU means the degree of uncertainty of economic policy is high, and vice versa. Since the gold market is affected by global crises or fluctuations (Fang et al, 2018), this paper considers GEPU 3 (Davis, 2016), which is a GDP-weighted average of EPU for 20 countries 4 , in order to measure the uncertainty of the global economic policy. To eliminate the potential heteroscedasticity of GEPU, by using natural logarithms.…”

“…When the uncertainty attains its highest level and under relatively stable gold market status, gold can be considered as an asset to avoid risks (Jamal et al, 2018). In addition, since the uncertainty has significant impacts on the gold market, the prediction of the volatility of gold futures market, based on GEPU, is reliable and accurate (Fang et al, 2018). In turn, there are several factors that can be taken into account as indicators of uncertainty in economic policy, and among them, GP has been considered as the most significant (Raza et al, 2018).…”