Causality‐in‐variance of prices of oil products

• Date: 01 December 2013
• DOI: http://doi.org/10.1111/opec.12009
• Published date: 01 December 2013
• Author: Salah Abosedra,Bernard Ben Sita

Causality-in-variance of prices of

oil products

Bernard Ben Sita* and Salah Abosedra**

*Assistant Professor of Finance, Department of Finance & Accounting, Lebanese American University, PO

Box 13-5053, Chouran-Beirut 1102-2801, Lebanon. Email: bernard.bensita@lau.edu.lb

**Professor of Economics, Department of Economics, Lebanese American University, Chouran-Beirut,

Lebanon

Abstract

This paper investigates causality-in-variancebetween the price of crude oil and the prices of refined

oil products using US data. The cross-correlation function is applied on both normal and abnormal

squared standardized residuals. Wefound that causality-in-variance has a lead from crude price to

gasoline prices for not more than 2 days,and has a lag from gasoline to cr ude of not more than 2 days.

In addition to the daily causality pattern, the monthly causality pattern reveals that the lead-in-

variance causation from crude price to refined products’ prices and the lag-in-variance causation

from refined products’ prices to crude prices persist longer with abnormal squared shocks. These

patterns suggest that market participants can advantageously adjust their positions within and across

these markets.

1. Introduction

The volatility of financial assets, derivatives and commodity prices has attracted a great

deal of research activities in financial economics. In the energy economics literature, the

short-term volatility dynamics of prices of petroleum products is linked to information

persistence, asymmetry, and jumps (e.g. Ewing et al., 2002; Lee and Zyren, 2007;

Narayan and Narayan, 2007; Chiou and Lee, 2009; Kang et al., 2009; and Chang et al.,

2010). A number of financial and economic theories can explain these volatility patterns

and regularities.1However, in the exceptionof Hammoudeh et al. (2003), studies on shor t-

term volatility patterns and regularities on petroleum products have overlooked the issue

of causality in variance in these products’ prices shocks.2

Understanding the source of variation in these products is important for at least three

reasons. First, while the production mechanism singles out the crude oil as the main input

of the refined oil product prices, the volatility mechanism is known to be complex in

both trading and information kinds of feedbacks (e.g., Ng and Pirrong, 1996; Ewing

et al., 2002; Kaufmann and Ullman, 2009; and Arouri et al., 2011). Second, the market

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