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The stochastic behavior of commodity prices with heteroskedasticity in the convenience yield

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  • Liu, Peng
  • Tang, Ke
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Abstract

We document a new stylized fact regarding the dynamics of the commodity convenience yield: the volatility of the convenience yield is heteroskedastic for industrial commodities; specifically, the volatility (variance) of the convenience yield depends on the convenience yield level. To explore the economic and statistical significance of the improved specification of the convenience yield process, we propose an affine model with three state variables (log spot price, interest rate, and the convenience yield). Our model captures three important features of commodity futures--the heteroskedasticity of the convenience yield, the positive relationship between spot-price volatility and the convenience yield and the dependence of futures risk premium on the convenience yield. Moreover our model predicts an upward sloping implied volatility smile, commonly observed in commodity option market.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Empirical Finance.

Volume (Year): 18 (2011)
Issue (Month): 2 (March)
Pages: 211-224

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Handle: RePEc:eee:empfin:v:18:y:2011:i:2:p:211-224

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Web page: http://www.elsevier.com/locate/jempfin

Related research

Keywords: Commodity Convenience yield Heteroskedasticity Affine model Volatility smile;

References

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Citations

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Cited by:
  1. Mirantes, Andrés García & Población, Javier & Serna, Gregorio, 2013. "The stochastic seasonal behavior of energy commodity convenience yields," Energy Economics, Elsevier, vol. 40(C), pages 155-166.
  2. Suenaga, Hiroaki, 2013. "Measuring bias in a term-structure model of commodity prices through the comparison of simultaneous and sequential estimation," Mathematics and Computers in Simulation (MATCOM), Elsevier, vol. 93(C), pages 53-66.
  3. Yang, Linghubo & Zhang, Dongxiang, 2013. "Can futures price be a powerful predictor? Frequency domain analysis on Chinese commodity market," Economic Modelling, Elsevier, vol. 35(C), pages 264-271.
  4. Chris Brooks & Marcel Prokopczuk, 2011. "The Dynamics of Commodity Prices," ICMA Centre Discussion Papers in Finance icma-dp2011-09, Henley Business School, Reading University.
  5. Chevallier, Julien & Aboura, Sofiane, 2014. "Volatility equicorrelation: A cross-market perspective," Economics Papers from University Paris Dauphine 123456789/12323, Paris Dauphine University.
  6. Janis Back & Marcel Prokopczuk & Markus Rudolf, 2011. "Seasonal Stochastic Volatility: Implications for the Pricing of Commodity Options," ICMA Centre Discussion Papers in Finance icma-dp2011-16, Henley Business School, Reading University.

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