Speculation and volatility—A time‐varying approach applied on Chinese commodity futures markets

• Date: 01 April 2019
• Author: Jan Voelzke,Claudia Wellenreuther
• DOI: http://doi.org/10.1002/fut.21984
• Published date: 01 April 2019

Received: 10 January 2018

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Accepted: 4 November 2018

DOI: 10.1002/fut.21984

RESEARCH ARTICLE

Speculation and volatility—A time‐varying approach

applied on Chinese commodity futures markets

Claudia Wellenreuther

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Jan Voelzke

Department of Economics, University of

Münster, Münster, Germany

Correspondence

Claudia Wellenreuther, Department of

Economics, University of Münster, Am

Stadtgraben 9, 48143 Münster, Germany.

Email: Claudia.Wellenreuther@wiwi.uni-

muenster.de

Abstract

Experts have long discussed and empirically investigated whether speculative

activity increases volatility on commodity futures markets. Little empirical

research, however, analyzes the role of speculators on commodity futures

markets in China. Using time‐varying vector autoregression models with

stochastic volatility, this paper investigates for four heavily traded metal and

agricultural contracts, how the relationship between returns volatility and

speculation evolves over time. Our findings indicate that speculative activity has

little to no impact on volatility. On the contrary, for all commodities examined,

returns volatility seems to amplify speculation.

KEYWORDS

Chinese futures markets, commodities, returns volatility, speculation ratio, time‐varying approach

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INTRODUCTION

The impact of speculation on the volatility of commodity futures returns has been subject to an extensive debate.

However, little attention has been paid to the role of speculators in commodity futures markets in China. To fill this

study gap, this paper examines the time‐varying relationship between speculative activity and returns volatility on

Chinese futures markets for commodities.

Over the past decade, Chinese commodity futures markets have grown extremely rapidly. In the first half of 2016 in

particular, the overall market activity exploded and trading volume reached unprecedented dimensions. The trading

activity of the steel rebar contract on the Shanghai Futures Exchange (SHFE) impressively illustrates this development.

On April 21, 2016, alone, the trading volume of this sole commodity amounted to 24 million contracts, which is

equivalent to 240 million tonnes of steel rebar and to around a third of China’s yearly steel production (Home, 2016).

Although the trading activity on the futures market of Shanghai steel rebar calmed down in 2017, the daily trading

volume of this contract remains high. In 2018, the Shanghai steel rebar contract is still the most traded commodity

futures contract in the world. Currently, 10 out of the top 15 traded futures contracts in the world are traded on Chinese

exchanges (Acworth, 2018).

In addition to the surge in trading volume, commodity futures in China and worldwide have exhibited increasing

returns volatility since 2000, with soaring price spikes in 2007 and 2011 and price crashes between mid 2007 and 2008.

In line with the ongoing financialization of commodity futures markets, these events have encouraged an extended

academic debate as well as a heated public discussion about the role of speculators on futures markets. Many empirical

studies have analyzed whether or not speculative activity increases volatility on US commodity futures markets.

Overall, these studies tend to find stabilizing effects of speculation.

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The stabilizing hypothesis is quite reasonable and

J Futures Markets. 2019;39:405–417. wileyonlinelibrary.com/journal/fut © 2018 Wiley Periodicals, Inc.

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Research by Sanders, Irwin, and Merrin (2010) and Till (2009) concludes that speculators were not responsible for the excessive price increase in 2007 and 2008 because the surge in speculative

activity was equaled by a surge in hedging demand. The impact of speculative activity on a variety of energy, metals, livestock, and agricultural futures markets is also analyzed by Miffre and Brooks