Return dynamics during periods of high speculation in a thinly traded commodity market

• Author: Martin Stefan,Martin T. Bohl
• Published date: 01 January 2020
• DOI: http://doi.org/10.1002/fut.22063
• Date: 01 January 2020

© 2019 The Authors. The Journal of Futures Markets published by Wiley Periodicals, Inc

J Futures Markets. 2020;40:145–159. wileyonlinelibrary.com/journal/fut

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145

Received: 22 November 2018

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Accepted: 17 September 2019

DOI: 10.1002/fut.22063

RESEARCH ARTICLE

Return dynamics during periods of high speculation

in a thinly traded commodity market

Martin T. Bohl

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Martin Stefan

Department of Business and Economics,

Westfälische Wilhelms‐Universität

Münster, Münster, Germany

Correspondence

Martin T. Bohl, Department of Business

and Economics, Westfälische Wilhelms‐

Universität Münster, Am Stadtgraben 9,

48143 Münster, Germany.

Email: martin.bohl@wiwi.uni-muenster.de

Abstract

This article studies the effects of speculation in a thinly traded commodity

futures market, paying particular attention to periods characterized by high‐

speculative activity of long–short speculators. Using the speculation ratio as a

daily measure for long–short speculation, we employ generalized autoregressive

conditional heteroscedasticity regressions to study its impact on return

dynamics. Our results for the Chicago Mercantile Exchange feeder cattle

futures market suggest that futures returns are predominantly explained by

fundamentals, but their volatility is significantly driven by the speculation ratio.

This relationship holds for periods of high‐and low‐speculative activity alike.

KEYWORDS

commodity markets, return dynamics, speculation, thinly traded markets

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INTRODUCTION

Both in the scientific literature and the general public, the reason for the surge of commodity prices throughout the

2000s has been the subject of considerable debate. A number of public commentators claimed that the price hikes were

caused by various financial institutions increasing their investments in commodity futures. Most prominently, the so‐

called Masters (2008) hypothesis asserts that in particular long‐only positions by commodity index funds drove up

commodity prices throughout this period of time. However, the debate on the validity of the Masters hypothesis seems

mostly settled, with numerous studies, for example, by Sanders, Irwin, and Merrin (2010), Irwin and Sanders (2012),

Büyükşahin and Harris (2011) or Hamilton and Wu (2015), and Brunetti, Büyükşahin, and Harris (2016), rejecting the

hypothesis’s central claim.

Yet, comparatively little attention has been paid to the role of traditional long–short speculators. One strand of the

literature examining this trader type has analyzed the direction of causality between changes in the positions of these

traders and changes in commodity prices. Büyükşahin and Harris (2011) and Alquist and Gervais (2013) both study the

market for crude oil futures and use trader position data from the Commodity Futures Trading Commission (CFTC).

Whereas the former use highly disaggregated data at daily frequency, the latter rely upon more aggregated, weekly data

that are publicly available. Neither find evidence for the notion that changes in trader positions lead price changes. Only

Robles, Torero, and vonBraun (2009), who study four agricultural markets, find some support for the connection

between changes in trader positions and changes in prices. However, the authors’findings are limited to a small

number of rolling‐window subsamples which are drawn from monthly data and thus contain very few observations.

Another stream of the literature has investigated the case of long–short speculation using different generalized

autoregressive conditional heteroscedasticity (GARCH) models, which, in addition to investigating effects on returns,

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the original work is properly cited.