Derivative trading and structural breaks in volatility in India: an ICSS approach
-
DOIhttp://dx.doi.org/10.21511/imfi.17(2).2020.26
-
Article InfoVolume 17 2020, Issue #2, pp. 334-352
- Cited by
- 746 Views
-
132 Downloads
This work is licensed under a
Creative Commons Attribution 4.0 International License
Researchers argue that ignoring the structural breaks in the time-series variance can cause significant upward biases in the degree of persistence in estimated GARCH models. Against this backdrop, the present study empirically examines the effect of stock futures on the underlying stock’s volatility in India by incorporating the structural breaks with the help of ICSS test and AR (1)-GARCH (1, 1) model for 30 most liquid and actively traded underlying stocks and their associated futures contracts. The study period ranges from the 1st January 2000 or the listing date of the particular stock (whichever is prior) till 31st March 2019. The study contributes to the on-going debate regarding the effect of derivatives on the underlying stock market’s volatility in two ways. Firstly, by taking into consideration the breaks in the volatility and, secondly, studying the effect of single stock futures will allow us to evaluate company-specific response to futures trading directly. The study offers a mixed outcome for the stocks under consideration. However, there is evidence of a decline in unconditional volatility for the majority of the stocks. The overall findings indicate that trading in stock futures may not have any detrimental effect on the underlying stock’s volatility.
- Keywords
-
JEL Classification (Paper profile tab)G11, G14
-
References45
-
Tables4
-
Figures1
-
- Figure 1. Multiple Structural Breaks (Iterated Cumulative Sums of Squares (ICSS) algorithm of Inclan and Tiao (1994)
-
- Table 1. List of selected stocks and their volume
- Table 2. Unit root test (augmented Dickey-Fuller test)
- Table 3. Results of ARCH test
- Table 4. Impact of stock futures on the volatility of underlying stocks
-
- Aggarwal, R., Inclan, C., Leal, R., The, S., Analysis, Q., & Mar, N. (1999). Volatility in Emerging Stock Markets. Journal of Financial and Quantitative Analysis, 34(1), 33–55.
- Andreou, E., & Ghysels, E. (2002). Detecting Multiple Breaks in Financial Market. Journal of Applied Econometrics, 17, 579600.
- Antoniou, A., & Holmes, P. (1995). Futures trading, information and spot price volatility: evidence for the FTSE-100 stock index futures contract using GARCH. Journal of Banking and Finance, 19(1), 117–129.
- Awan, A., & Shah, S. M. A. (2014). The Price and Volume Effect of Single-Stock Futures Trading on the Pakistani stock market. The Lahore Journal of Business, 2(Spring), 1–32.
- Badhani, K. N., Harish, B., & Chauhan, A. K. (2008). Derivative Trading and Structural Changes in Volatility Derivative Trading and Structural Changes in Volatility. IDIGR Conference, 1–29.
- Bae, S. C., Kwon, T. H., & Park, J. W. (2004). Futures trading, spot market volatility, and market efficiency: The case of the Korean index futures markets. The Journal of Futures Markets, 24(12), 1195–1228.
- Bandivadekar, S., & Ghosh, S. (2003). Derivatives and Volatility on Indian Stock Markets. In Reserve Bank of India Occasional Papers (Vol. 24).
- Bhaumik, S., Karanasos, M., & Kartsaklas, A. (2016). The informative role of trading volume in an expanding spot and futures market. Journal of Multinational Financial Management.
- Bohl, M. T., Salm, C. A., Wilfling, B., & Salm, C. A. (2009). Do Individual Index Futures Investors Destabilize the Underlying Spot Market ? The Journal of Futures Markets, 31(1), 81–101.
- Brorsen, B. W. (1991). Futures trading, transaction costs, and stock market volatility. Journal of Futures Markets, 11(2), 153–163.
- Chan, K. (1991). A Further Analysis of the Lead-Lagg Relationship Between the Cash Market and Stock Index Futures Market. The Review of Financial Studies, 4(4), 657–684.
- Chiraz, A. (2016). Does the Index Futures Destabilize the Underlying Spot Market ? Some Evidence from Frensh Stock Exchange. Business and Economics Journal, 7(3).
- Cox, J. C., & Ross, S. A. (1976). a Survey of Some New Results in Financial Option Pricing Theory. The Journal of Finance, 31(2), 383–402.
- Das, S., & Sahgal, R. (2020). NSE turns world’s largest exchange in derivatives trading. The Economic Times. Retrieved April 1, 2020, from Economic
- Diebold, F.X. (1986). Modeling the Persistence of Conditional Variances: A Comment. Econometric Reviews, 5(1), 51–56.
- Diebold, Francis X., & Inoue, A. (2001). Long memory and regime switching. Journal of Econometrics, 105(1), 131–159.
- Granger, C. W. J., & Hyung, N. (1999). Occasional Structural Breaks and Long Memory. Marine Ecology Progress Series, 11(3), 399–421.
- Gulen, H., & Mayhew, S. (2000). Stock Index Futures Trading and Volatility in International Equity Markets. The Journal of Futures Markets, 20(7), 661–685.
- Harris, L. (1989). S & P 500 Cash Stock Price Volatilities. The Journal of Finance, 44(5), 1155–1175.
- Jithendranathan, T. (2010). Effect of Single Stock Futures on the Volatility of Underlying Russian Stocks. Global Business & Finance Review, 15(2).
- Kang, S. H., Jung, J., Park, K., & Yoon, S. (2007). Sudden Changes in Variance and Volatility Persistence in Asian Foreign Exchange Markets. The Journal of the Korean Economy, 11(1), 129-143.
- Kavussanos, M. G., Visvikis, I. D., & Alexakis, P. D. (2008). The Lead-Lag Relationship Between Cash and Stock Index Futures in a New Market. European Financial Management, 14(5), 1007-1025.
- Khan, S. U., & Rizwan, F. (2008). Trading Volume and Stock Returns: Evidence from Pakistan’s Stock Market. International Review of Business Research Papers, 4(2), 151–162.
- Lee, C. L., Stevenson, S., & Lee, M. L. (2014). Futures trading, Spot Price Volatility and Market Efficiency: Evidence from European Real Estate Securities Futures. Journal of Real Estate Finance and Economics, 48, 299–322.
- Lee, S. Bin, & Ohk, K. Y. (1992). Stock index futures listing and structural change in time‐varying volatility. Journal of Futures Markets, 12(5), 493–509.
- Malik, F., & Hassan, S. A. (2004). Modeling volatility in sector index returns with GARCH models using an iterated algorithm. Journal of Economics and Finance, 28(2), 211-225.
- Malik, I. R., & Shah, A. (2016). The Impact of Single Stock Futures on Market Efficiency and Volatility: A Dynamic CAPM Approach. Emerging Markets Finance and Trade, 53(2), 339–356.
- Mallikarjunappa, T., and Afzal (2008). The Impact of Derivatives on Stock Market Volatility: A Study of the Nifty Index. Asian Academy of Management Journal of Accounting and Finance, 4(2), 43-65.
- Mckenzie, M. D., Brailsford, T. J., & Faff, R. W. (2001). New Insights into the Impact of the Introduction of Futures Trading on Stock Price Volatility. The Journal of Futures Markets, 21(3), 237–255.
- Mikosch, T., & Starica, C. (2000). University of Groningen and Chalmers University of Technology. The Annals of Statistics, 28(5), 1427–1451.
- Pericli, A., & Koutmos, G. (1997). Index futures and options and stock market volatility. Journal of Futures Markets, 17(8), 957–974.
- Pilar, C., & Rafael, S. (2002). Does derivatives trading destabilize the underlying assets? Evidence from the Spanish stock market. Applied Economics Letters, 9(2), 107-110.
- Pok, W. C., & Poshakwale, S. (2006). The impact of the introduction of futures contracts on the spot market volatility : the case of Kuala Lumpur Stock Exchange. Applied Financial Economics, 14(2), 37–41.
- Rahman, S. (2001). The introduction of derivatives on the dow jones industrial average and their impact on the volatility of component stocks. Journal of Futures Markets, 21(7), 633–653.
- Raju, M. T., & Karande, K. (2003). Price Discovery and Volatility on NSE Futures Market.
- Reyes, M. G. (1996). Index Futures Trading and Stock Price Volatility : Evidence from Denmark and France. Journal of Economics and Finance, 20(3), 81–88.
- Ross, G. J. (1989). Modeling Financial Volatility in the Presence of Abrupt Changes. The Journal of Finance, XLIV,(1), 1–17.
- Ryoo, H., & Smith, G. (2006). The impact of stock index futures on the Korean stock market The impact of stock index futures on the Korean stock market. Applied Financial Economics, 14(4), 37–41.
- Sarangi, S. P., & Patnaik, K. U. S. (2011). Impact of Futures and Options on the Underlying Market Volatility: An Empirical Study on S&P CNX Nifty Index. SSRN Electronic Journal.
- Thenmozhi, M. (2002). Do the S&P CNX Nifty Index And Nifty Futures Really Lead/Lag? Error Correction Model: A Co-integration Approach.
- Tse, Y. (1999). Price Discovery and Volatility Spillovers in the DJIA Index and Futures Markets. 19(8), 911–930.
- Wang, P., & Moore, T. (2009). Sudden changes in volatility: The case of five central European stock markets. Journal of International Financial Markets, Institutions and Money, 19(1), 33–46.
- Wats, S. (2017). Expiration Day Impact on the Indian Spot Market Volatility. NMIMS Management Review, XXXIII(January 2017), 88–97.
- Yilgor, A. G., Lidvine, C., & Mebounou, C. (2016). The Effect of Futures Contracts on the Stock Market Volatility : An Application on Istanbul Stock Exchange. Journal of Business, Economics and Finance, 5(3), 307–317.
- Yao, Y. (2016). The Impact of Stock Index Futures on Spot Market Volatility. International Conference on Education, Sports, Arts and Management Engineering (ICESAME 2016), 1244-1247.