The Effect Of Futures Trading On Cash Market Volatility PDF Download

There has been much concern voiced over the possible spot market volatility effects of the new financial futures markets, particularly in a study by the Federal Reserve Board and the Treasury Department regarding Treasury instrument futures markets. This study is designed to provide evidence on the spot price volatility effects of futures trading in 90-day Treasury Bills, The method of analysis is to first identify periods of time that are roughly similar in their overall capital market volatility, but differ in that one period is before TBill futures trading began and its comparable period is after TBill futures trading began. Next several econometric techniques are used to estimate models of interest rate determination. The estimation produces measures of spot TBill rate volatility for each of the comparable periods which are then used in a pairwise fashion to ascertain the spot price volatility effects of futures trading. The interest rate models come from the rather large body of macroeconomics literature dealing with the formation of interest rates. The econometric techniques span different assumptions imposed on the models and each technique provides consistent estimates of the model parameters under the stated conditions. Further, simple analysis of daily and weekly TBill rates is performed to provide continuity with studies of futures market spot price effects in other commodities. The results of all the statistical tests suggest that Treasury Bill futures trading does not increase spot market volatility during relatively stable periods of capital market activity, but is associated with increased spot Treasury Bill market volatility during times when overall capital market conditions are volatile. These results indicate that Treasury Bill futures trading alone does not increase spot market volatility, contrary to the hypothesis that simply the existence of financial futures trading destabilizes the underlying spot market.