On commodity market risk premiums: Additional evidence (original) (raw)

Risk premiums in futures markets: An empirical investigation

Journal of Futures Markets, 1984

he question of a risk premium in the futures markets has been the object of T numerous studies throughout the years. Still, the empirical evidence is inconclusive. Tests which rely on various hedging models or on the consumption CAPM (capital asset pricing model) generally warrant the existence of a risk premium while studies based on the CAPM support the contention of no risk premium. Part of the problem lies in the absence of a legitimate model of futures prices. In this article we attempt to circumvent this problem by following an approach similar to the one developed by Mishkin (l981,1982a,b) in the context of the bond market. No attempt is made to test a particular theory or model. Instead, assuming rational market participants, estimates of the risk premium are generated from unrestricted regressions including pertinent variables selected from recent equilibrium and hedging models. Using this methodology, we find evidence of nonzero cyclical risk premiums in the Chicago corn, wheat, and oats markets for the period 1970111 to 1981IV. Furthermore, these risk premiums are shown to be different across markets. We also provide an interpretation of the behavior of the risk premiums during this period. The results generally support the view that risk premiums are allocated between long and short positions rather than on a speculator-hedger basis. We begin our discussion by reviewing the empirical and theoretical studies published in this area. We then briefly present the methodology used for the tests. The empirical analysis follows. The final section develops the implications of the results.

Commodities and the Market Price of Risk

IMF Working Papers, 2008

This Working Paper should not be reported as representing the views of the IMF. The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate. Commodities are back following a stellar run of price performance, attracting financial investor attention. What are the fundamental reasons to hold commodities? One reason is the exposure offered to underlying risk factors. In this paper, I assess the macro risk exposure offered by commodity futures and test whether these risks are priced, using Merton's (1973) intertemporal capital asset pricing model for a sample of commodity prices covering the period January 1973-February 2008. I find that commodity futures offer a hedge against lower interest rates and that investors are willing to accept lower expected returns for this position. Although some commodities are also a hedge against U.S. dollar depreciation, this risk is not priced.

An Anatomy of Commodity Futures Risk Premia

The Journal of Finance, 2014

We identify two types of risk premia in commodity futures returns: spot premia related to the risk in the underlying commodity, and term premia related to changes in the basis. Sorting on forecasting variables such as the futures basis, return momentum, volatility, inflation, hedging pressure, and liquidity results in sizable spot premia between 5% and 14% per annum and term premia between 1% and 3% per annum. We show that a single factor, the high-minus-low portfolio from basis sorts, explains the cross-section of spot premia. Two additional basis factors are needed to explain the term premia.

Risk and Return in Commodity Futures

Financial Analysts Journal, 1980

Risk mmni Return i n How do returns on commodity futures compare with returns on common stocks? The authors found that, over the period 1950 to 1976, the mean return on their benchmark portfolio of commodity futures was about the same as the mean return on common stocks. On the other hand, the futures tended to do well in years when the stocks were doing badly, and vice versa. By switching from an all-stock portfolio to one invested 60 per cent in stocks and 40 per cent in futures, an investor could have reduced his return variability by one-third without sacrificing any of his return. Furthermore, the commodity futures proved to be very good inflation hedges. Four of their best years coincided with four of the seven years of the highest acceleration in inflation. While the dispersion of the real returns on the commodity futures portfolio was smaller than the dispersion of its nominal returns, the reverse was true for both stocks and bonds. The mean rates of return and variabilities of the 23 individual commodities in the authors' sample were distributed over a wide range. But only one commodityeggshad a negative rate of return for the 27-year period. Hardly any of the individual commodities (other than the obvious cases such as hogs and pork bellies) showed significant correlation with each other. T HIS article provides a comprehensive analysis of the rates of return on commodity futures contracts traded in the United States from 1950 to 1976 and compares them to the rates of return earned on stocks and bonds over that same period. We hope that the results reported here will serve as a benchmark against which commodity futures mutual funds and computerized trading programs can compare themselves, in much the same way that common stock performance is compared with the Standard & Poor's 500. To date, most of the published research on commodity futures has focused on the issue of market efficiency. 1 Many researchers have tested the validity of the normal backwardation hypothesis, according to which a commodity's futures price tends to be a downward biased estimate of its spot price in the cash market at the contract's maturity date. The theory maintains that, on balance, there is an excess of short hed-gers who wish to avoid the risk of downward commodity price movements and are therefore willing to sell their goods at a price lower than the spot price expected to prevail at maturity in order to induce speculators to take up the slack in the long side of the market. In effect the hedgers offer speculators an insurance premium for their services. The results reported in this article shed some additional light on the backwardation issue. The Study Our study encompassed all major commodities traded in futures markets in the United States from December 1949 to December 1976. We calculated quarterly series for each of 23 individual commodity futures using two alternative defini-Zvi Bodie is Associate Professor of Finance at Boston University School of Management. Victor Rosansky is currently working on his doctorate in economics at Boston University. The authors thankJohn Aber, Fischer Black, Fred Grauer, Alex Kane and Franco Modigliani for their helpful comments.

The Cross-Section of Commodity Futures Returns

SSRN Electronic Journal, 2010

In this paper we study consumption risk pricing in commodity futures markets. We …nd that, like stock returns, the conditional Consumption CAPM explains up to 60% of the cross sectional variation in mean futures returns. However, unlike stock returns, using contemporaneous plus future consumption growth reduces the performance of the model. We attribute this result to the fact that for commodities supply changes impact prices and therefore consumption. Consistent with this notion we …nd that production-and inventory-based factors are signi…cant determinants of the long run risk in commodities markets, which may explain the poor performance of ultimate consumption risk model.

Capturing the risk premium of commodity futures: The role of hedging pressure

Journal of Banking & Finance, 2013

We construct long-short factor-mimicking portfolios that capture the hedging pressure risk premium of commodity futures. We consider single sorts based on the open interests of either hedgers or speculators, as well as double sorts based on both positions. We find positive and significant commodity futures risk premiums from both single and double sorts, alongside with Sharpe ratios that systematically exceed those of long-only commodity portfolios. Further tests show that the hedging pressure risk premiums rise with the lagged volatility of commodity markets and that the cross-sectional price of commodity risk is positive. Finally, the hedging pressure risk premiums are found to explain the performance of active commodity portfolios better than long-only commodity benchmarks and to act as better diversifiers of equity risk.

A historical perspective of the informational content of commodity futures

Resources Policy, 2017

This article extends Chinn and Coibion (2014)'s work-Journal of Futures Markets 34-on predictive content of commodity futures by considering a more comprehensive database and a longer time span, ranging from 25 to 65 years, and by presenting two extensions: multi-equation estimation of risk premiums and testing for the theory of storage. The empirical results show that futures-based forecasts for animal and agricultural products and industrial metals tend to be more efficient, in terms of mean absolute error, than random walk based-forecasts at a oneyear horizon. On the other hand, based on robust rolling estimates, there is evidence of constant and timevarying risk premiums in agricultural and precious metals, but their statistical significance vary considerably along the sample period. In particular, gold and silver show evidence of a negative time-varying risk premium, as opposed to platinum. Multi-equation estimation brings efficiency gains in premium gauging, which leads to reject that the futures price is an unbiased estimate of the spot price for all commodity classes. On the other hand, the sampled commodities lend only partial support to the theory of storage, and for the specific case of industrial metals, inventories seem to matter more than interest rates to explain the basis. Altogether, this article finds mixed support for the premium-based model and for the theory of storage.

The predictive performance of commodity futures risk factors

Journal of Banking & Finance, 2016

This paper investigates the time-series predictability of commodity futures excess returns from factor models that exploit two risk factors-the equally weighted average excess return on long positions in a universe of futures contracts and the return difference between the high-and low-basis portfolios. Adopting a standard set of statistical evaluation metrics, we find weak evidence that the factor models provide out-of-sample forecasts of monthly excess returns significantly better than the benchmark of random walk with drift model. We also show, in a dynamic asset allocation environment, that the information contained in the commodity-based risk factors does not generate systematic economic value to risk-averse investors pursuing a commodity stand-alone strategy or a diversification strategy.

An Anatomy of Futures Returns: Risk Premiums and Trading Strategies

WO Research …, 2004

This paper analyzes trading strategies which capture the various risk premiums that have been distinguished in futures markets. On the basis of a simple decomposition of futures returns, we show that the return on a short-term futures contract measures the spot-futures premium, while spreading strategies isolate the term premiums. Using a broad cross-section of futures markets and delivery horizons, we examine the components of futures risk premiums by means of passive trading strategies and active trading strategies which intend to exploit the predictable variation in futures returns. We find that passive strategies which capture the spot-futures premium do not yield abnormal returns, in contrast to passive spreading strategies which isolate the term premiums. The term structure of futures yields has strong explanatory power for both spot and term premiums, which can be exploited using active trading strategies that go long in low-yield markets and short in high-yield markets. The profitability of these yield-based trading strategies is not due to systematic risk. Furthermore, we find that spreading returns are predictable by net hedge demand observed in the past, which can be exploited by active trading. Finally, there is momentum in futures markets, but momentum strategies do not outperform benchmark portfolios.