Futures market efficiency and effectiveness of hedge in Indian currency market

2018 ◽  
Vol 13 (6) ◽  
pp. 2001-2027 ◽  
Author(s):  
Varuna Kharbanda ◽  
Archana Singh
Keyword(s):  
Dynamic Models ◽  
Futures Market ◽  
Futures Contracts ◽  
Conditional Correlation ◽  
Content Type ◽  
Currency Market ◽  
Currency Futures ◽  
Hedging Effectiveness ◽  
Static Models ◽  
Method Of Evaluation

Purpose Corporate treasurers manage the currency risk of their organization by hedging through futures contracts. The purpose of this paper is to evaluate the effectiveness of hedging by US currency futures contracts by taking into account the efficiency of the currency market. Design/methodology/approach The static models for calculating hedge ratio are as popular as dynamic models. But the main disadvantage with the static models is that they do not consider important properties of time series like autocorrelation and heteroskedasticity of the residuals and also ignore the cointegration of the market variables which indicate short-run market disequilibrium. The present study, therefore, measures the hedging effectiveness in the US currency futures market using two dynamic models – constant conditional correlation multivariate generalized ARCH (CCC-MGARCH) and dynamic conditional correlation multivariate GARCH (DCC-MGARCH). Findings The study finds that both the dynamic models used in the study provide similar results. The relative comparison of CCC-MGARCH and DCC-MGARCH models shows that CCC-MGARCH provides better hedging effectiveness result, and thus, should be preferred over the other model. Practical implications The findings of the study are important for the company treasurers since the new updated Indian accounting standards (Ind-AS), applicable from the financial year 2016–2017, make it mandatory for the companies to evaluate the effectiveness of hedges. These standards do not specify a quantitative method of evaluation but provide the flexibility to the companies in choosing an appropriate method which justifies their risk management objective. These results are also useful for the policy makers as they can specify and list the appropriate methods for evaluating the hedge effectiveness in the currency market. Originality/value Majorly, the studies on Indian financial market limit themselves to either examining the efficiency of that market or to evaluate the effectiveness of the hedges undertaken. Moreover, most of such works focus on the stock market or the commodity market in India. This is one of the first studies which bring together the concepts of efficiency of the market and effectiveness of the hedges in the Indian currency futures market.

Hedging and effectiveness of Indian currency futures market

2020 ◽  
Vol 14 (5) ◽  
pp. 581-597
Author(s):  
Varuna Kharbanda ◽  
Archana Singh
Keyword(s):  
Dynamic Model ◽  
Quantitative Methods ◽  
Accounting Standards ◽  
Futures Market ◽  
Least Square ◽  
Multivariate Garch ◽  
Content Type ◽  
Currency Futures ◽  
Hedging Effectiveness ◽  
Method Of Evaluation

Purpose The purpose of this paper is to measure the effectiveness of the hedging with futures currency contracts. Measuring the effectiveness of hedging has become mandatory for Indian companies as the new Indian accounting standards, Ind-AS, specify that the effectiveness of hedges taken by the companies should be evaluated using quantitative methods but leaves it to the company to choose a method of evaluation. Design/methodology/approach The paper compares three models for evaluating the effectiveness of hedge – ordinary least square (OLS), vector error correction model (VECM) and dynamic conditional correlation multivariate GARCH (DCC-MGARCH) model. The OLS and VECM are the static models, whereas DCC-MGARCH is a dynamic model. Findings The overall results of the study show that dynamic model (DCC-MGARCH) is a better model for calculating the hedge effectiveness as it outperforms OLS and VECM models. Practical implications The new Indian accounting standards (Ind-AS) mandates the calculation of hedge effectiveness. The results of this study are useful for the treasurers in identifying appropriate method for evaluation of hedge effectiveness. Similarly, policymakers and auditors are benefitted as the study provides clarity on different methods of evaluation of hedging effectiveness. Originality/value Many previous studies have evaluated the efficiency of the Indian currency futures market, but with rising importance of hedging in the Indian companies, Reserve Bank of India’s initiatives and encouragement for the use of futures for hedging the currency risk and now the mandatory accounting requirement for measuring hedging effectiveness, it has become more relevant to evaluate the effectiveness of hedge. To the authors’ best knowledge, this is one of the first few papers which evaluate the effectiveness of the currency future hedging.

scholarly journals Empirical Evidence on Time-Varying Hedging Effectiveness of Emissions Allowances under Departures from the Cost-of-Carry Theory

2013 ◽  
Vol 2013 ◽  
pp. 1-8 ◽  
Author(s):  
Kai Chang
Keyword(s):  
Futures Market ◽  
Time Varying ◽  
Conditional Volatility ◽  
Conditional Correlation ◽  
Spot Prices ◽  
Market Participants ◽  
Hedging Effectiveness ◽  
Hedge Ratios ◽  
Cost Of Carry ◽  
The Cost

Under departures from the cost-of-carry theory, traded spot prices and conditional volatility disturbed from futures market have significant impacts on futures price of emissions allowances, and then we propose time-varying hedge ratios and hedging effectiveness estimation using ECM-GARCH model. Our empirical results show that conditional variance, conditional covariance, and their correlation between between spot and futures prices exhibit time-varying trends. Conditional volatility of spot prices, conditional volatility disturbed from futures market, and conditional correlation of market noises implied from spot and futures markets have significant effects on time-varying hedge ratios and hedging effectiveness. In the immature emissions allowances market, market participants optimize portfolio sizes between spot and futures assets using historical market information and then achieve higher risk reduction of assets portfolio revenues; accordingly, we can obtain better hedging effectiveness through time-varying hedge ratios with departures from the cost-of-carry theory.

An investigation of price discovery and volatility spillovers in India’s foreign exchange market

2015 ◽  
Vol 42 (2) ◽  
pp. 261-284 ◽  
Author(s):  
Sanjay Sehgal ◽  
Wasim Ahmad ◽  
Florent Deisting
Keyword(s):  
Price Discovery ◽  
Stock Exchange ◽  
Futures Market ◽  
Volatility Spillover ◽  
Futures Prices ◽  
Content Type ◽  
Volatility Spillovers ◽  
Currency Market ◽  
Short Run

Purpose – The purpose of this paper is to examine the price discovery and volatility spillovers in spot and futures prices of four currencies (namely, USD/INR, EURO/INR, GBP/INR and JPY/INR) and between futures prices of both stock exchanges namely, Multi-Commodity Stock Exchange (MCX-SX) and National Stock Exchange (NSE) in India. Design/methodology/approach – The study applies cointegration test of Johansen’s along with VECM to investigate the price discovery. GARCH-BEKK model is used to examine the volatility spillover between spot and futures and between futures prices. The other two models namely, constant conditional correlation and dynamic conditional correlation are used to demonstrate the constant and time-varying correlations. In order to confirm the volatility spillover results, the study also applies test of directional spillovers suggested by Diebold and Yilmaz (2009, 2012). Findings – The results of the study show that there is long-term equilibrium relationship between spot and futures and between futures markets. Between futures and spot prices, futures price appears to lead the spot price in the short-run. Volatility spillover results indicate that the movement of volatility spillover takes place from futures to spot in the short-run while spot to futures found in the long-run. However, the results of between futures markets exhibit the dominance of MCX-SX over NSE in terms of volatility spillovers. By and large, the findings of the study indicate the important role of futures market in price discovery as well as volatility spillovers in India’s currency market. Practical implications – The results highlight the role of futures market in the information transmission process as it appears to assimilate new information quicker than spot market. Hence, policymakers in emerging markets such as India should focus on the development of necessary institutional and fiscal architecture, as well as regulatory reforms, so that the currency market trading platforms can achieve greater liquidity and efficiency. Originality/value – Due to recent development of currency futures market, there is dearth of literature on this subject. With the apparent importance of currency market in recent time, this study attempts to study the efficient behavior of currency market by way of examining the price discovery and volatility spillovers between spot and futures and between futures prices of four currencies traded on two platforms. The study has strong implications for India’s stock market especially at the time when its currency is under great strain owing to the adverse impact of global financial crisis.

Incentive mechanisms and hedging effectiveness – an experimental study

2018 ◽  
Vol 8 (3) ◽  
pp. 332-352 ◽  
Author(s):  
Lu Zhang ◽  
Difang Wan ◽  
Wenhu Wang ◽  
Chen Shang ◽  
Fang Wan
Keyword(s):  
Behavioral Finance ◽  
Design Theory ◽  
Futures Market ◽  
Incentive Mechanisms ◽  
Content Type ◽  
Hedging Effectiveness ◽  
Exploratory Experiment ◽  
Long Term Impact ◽  
Brokerage Firms

PurposeThe purpose of this paper is to analyze the role of four different incentives in improving hedging effectiveness and propose an alternative regulatory mechanism for China’s futures market.Design/methodology/approachThe research method that this study uses is a laboratory experiment, and this study follows the basic norms of experimental research. In addition, this paper designs and conducts a game experiment between hedgers and futures brokerage firms (FBFs) under different incentive mechanisms.FindingsBy analyzing the experimental data, it is found that compared with other incentive mechanisms, hedgers’ willingness to hedge and FBFs’ regulatory intention are both significantly higher for the dynamic linkage updating mechanism, indicating that hedgers have a stronger willingness to follow their hedging plan, and FBFs are more responsible for their regulatory behaviors. Additionally, the dynamic linkage updating mechanism has a long-term impact on effective hedging in the futures market.Research limitations/implicationsThe findings suggest that the dynamic linkage updating mechanism is beneficial for effectively restricting both hedgers’ over-speculation and FBFs’ regulatory slack and improving the hedging efficiency of the futures market.Practical implicationsTo solve the problem of inefficient hedging in China’s futures market, i.e., hedgers’ over-speculation and FBFs’ passive collusion with hedgers, the regulators of China’s futures market should reform the existing incentives and adopt a dynamic linkage updating mechanism to encourage all the participants to actively improve hedging effectiveness.Originality/valueThis paper analyzes and verifies, for the first time, the role of the dynamic linkage updating mechanism in the investing behaviors of hedgers and the regulatory behaviors of future brokerage firms. The futures market experiment that was designed and used in this study is a pioneering and exploratory experiment that applies game theory and mechanism design theory to the field of behavioral finance.

Comparative Analysis on the Hedging Effectiveness Among Domestic Currency Futures Contracts

2007 ◽  
Vol 15 (1) ◽  
pp. 41-72
Author(s):  
Won Cheol Yun
Keyword(s):  
Performance Measures ◽  
Minimum Variance ◽  
Futures Contracts ◽  
Currency Futures ◽  
Hedging Effectiveness ◽  
The Us ◽  
Us Dollar ◽  
The Difference ◽  
Japanese Yen ◽  
Better Than

This study empirically compares the hedging performances of the newly listed Japanese yen (JPY) and European euro (EUR) currency futures in the KRX relative to that of the us dollar (USD) currency futures. For this purpose, assuming the situation of foreign-asset investment the minimum variance hedging models based on OLS and ECM are compared with a simple 1: 1 hedge. The difference between previous studies and this one is in that the latter uses various kinds of hedging performance measures and analyzes the hedging performances by different hedging horizon. According to the empirical results, the USD currency futures outperforms the JPY and EUR currency futures when considering the risk only. However, the results are reversed wilen incorporating the return as well as the risk. With respect to the comparative advantages among hedging types, the ECM-hedge turns out to be better than the others for evaluating the risk only, and the 1: 1 hedge proves to be superior to the others when considering both of the return and risk aspects. Based on the risk-reduction aspect. the hedging performances are gradually improving as the length of hedging period increases, while they deteriorate for considering both the return and risk aspects.

The relationship between trading volume and exchange rate volatility: linear or nonlinear?

2019 ◽  
Vol 15 (1) ◽  
pp. 19-38
Author(s):  
Satish Kumar
Keyword(s):  
Granger Causality ◽  
Trading Volume ◽  
Causal Relation ◽  
Futures Market ◽  
Content Type ◽  
Currency Futures ◽  
Information Hypothesis ◽  
Hedging Strategies ◽  
Linear And Nonlinear ◽  
Mixture Of Distribution Hypothesis

PurposeThe purpose of this paper is to examine the linear and nonlinear relations between returns volatility and trading volume for the Indian currency futures market.Design/methodology/approachTo examine the contemporaneous relation between returns volatility and volume, the author uses the generalized method of moment estimator. For the linear causal relation, the author makes use of Granger (1969) bivariate vector autoregression model. The author tests for nonlinear Granger causality between returns volatility and trading volume based on a modified version of the Baek and Brock (1992) nonparametric technique developed by Hiemstra and Jones (1994).FindingsThe results indicate a negative contemporaneous relation between returns volatility and trading volume; therefore, the mixture of distribution hypothesis is not supported. The results of both linear and nonlinear Granger causality between futures returns volatility and trading volume indicate a significant bidirectional relation between the two variables lending support to the sequential arrival of information hypothesis. The results are robust to divergence of opinions as proxied by open interest.Practical implicationsThe findings of this paper are important for the participants in the market and regulators. The participants in the market require alternatives to diversify their risk. The significant causal relation between returns volatility and trading volume implies that trading volume helps predict the futures prices and should lead to creation of more reliable hedging strategies for investment purposes. Furthermore, it may interest the regulators who need to decide upon the appropriateness of their policies in the currency futures market.Originality/valueTo the best of the author’s knowledge, there is no study that investigates the forecast ability of trading volume to futures returns volatility in an emerging currency futures market. Given that currency futures market is one of the largest markets in the world, and Indian rupee has seen wide fluctuations in the recent years, it seems exciting to explore the price–volume relation in the Indian currency futures market.

A tale of two coffees? Analysing interaction and futures market efficiency

2020 ◽  
Vol 37 (1) ◽  
pp. 89-109
Author(s):  
Mark J. Holmes ◽  
Jesús Otero
Keyword(s):  
Market Efficiency ◽  
Unit Root ◽  
Futures Market ◽  
Recursive Estimation ◽  
Futures Contracts ◽  
Futures Prices ◽  
Content Type ◽  
Spot Prices ◽  
Unit Root Testing ◽  
Price Differentials

Purpose The purpose of this paper is to assess the informational efficiency of Arabica (other milds) and Robusta coffee futures markets in terms of predicting future coffee spot prices. Design/methodology/approach Futures market efficiency is associated with the existence of a long-run equilibrium relationship between spot and future prices such that coffee futures prices are unbiased predictors of future spot prices. This study applies unit root testing to daily data for futures-spot price differentials. A range of maturities for futures contracts are considered, and the study also uses a recursive approach to consider time variation in futures market efficiency. Findings The other milds and Robusta futures prices tend to be unbiased predictors for their own respective spot prices. The paper further finds that other milds and Robusta futures prices are unbiased predictors of the respective Robusta and other milds spot prices. Recursive estimation suggests that the futures market efficiency associated with these cross cases has increased, though with no clear link to the implementation of the 2007 International Coffee Agreement. Originality/value The paper draws new insights into futures market efficiency by examining the two key types of coffee and analyses the potential interactions between them. Hitherto, no attention has been paid to futures contracts of the Robusta variety. The employment of unit root testing of spot futures coffee price differentials can be viewed as more stringent than an approach based on non-cointegration testing.

scholarly journals INVESTIGATING THE IMPACT OF HEDGE HORIZON UPON HEDGING EFFECTIVENESS: EVIDENCE FROM NATIONAL STOCK EXCHANGE OF INDIA

2019 ◽  
Vol 18 (2) ◽  
pp. 131
Author(s):  
MANDEEP KAUR ◽  
KAPIL GUPTA
Keyword(s):  
Variance Reduction ◽  
Direct Relationship ◽  
Stock Exchange ◽  
Futures Market ◽  
Futures Contracts ◽  
Risk Averse ◽  
Risk Return ◽  
Hedging Effectiveness ◽  
The Impact ◽  
Reduction Approach

Present study attempts to investigate the impact of hedge horizon upon hedging effectiveness in Indian equity futures market by comparing hedging performance of near, next and far month futures contracts of NIFTY50 index and its 17 composite stocks. Hedging effectiveness has been measured using two approaches, namely, Variance Reduction approach and Risk-Return approach. The study finds that near month futures contracts are most effective when hedge effectiveness is measured using variance reduction approach, whereas, on the other hand, far month futures contracts are found to be most effective using risk-return approach. These results imply that for highly risk-averse investors (concerned with only minimization of risk), near month futures contracts enable effective hedging, whereas for less risk-averse investors (concerned with risk as well as return), far month futures contracts offer superior hedge effectiveness. The study also finds that coefficient of correlation between spot and futures returns is a significant factor affecting variance reduction of returns and bears direct relationship with it.

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