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Expected prices, futures prices and time-varying risk premiums: The case of copper

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  • Cifuentes, Sebastián
  • Cortazar, Gonzalo
  • Ortega, Hector
  • Schwartz, Eduardo S.

Abstract

A three-factor no-arbitrage stochastic commodity pricing model is calibrated to copper using analysts' predictions provided by Bloomberg's Commodity Price Forecast and futures prices from the COMEX and LME metals exchanges. The model generates futures prices, expected spot prices and time-varying risk premiums for different maturities. Results show that between October 2010 and June 2018 both exchanges exhibit a positive average risk premium for each maturity. The risk premiums for both exchanges are also shown to be stochastic, with short maturities having higher average values and greater volatility. In addition, the futures prices of COMEX values were greater than those LME with a mean difference of 0.477% and the LME exhibits higher averages values than COMEX for expected spot prices and risk premiums, with differences of 0.438% and 0.354%, respectively. As for risk premium volatility, the estimate for COMEX is 0.993% greater than that for LME. Statistically significant evidence is also given for the cointegration of the two markets. An empirical analysis shows that the main determinants of the variation in copper risk premiums are variations in COMEX inventories, hedging pressure, the default premium, the Chicago Board Options Exchange Volatility Index and the return on the NASDAQ Emerging Market Index. Finally, the approach is used for estimating expected copper spot prices, thus making it a useful tool for practitioners and policy makers who use expected copper prices as the basis for their investment and risk-management decisions.

Suggested Citation

  • Cifuentes, Sebastián & Cortazar, Gonzalo & Ortega, Hector & Schwartz, Eduardo S., 2020. "Expected prices, futures prices and time-varying risk premiums: The case of copper," Resources Policy, Elsevier, vol. 69(C).
    • Handle: RePEc:eee:jrpoli:v:69:y:2020:i:c:s0301420720308576
    DOI: 10.1016/j.resourpol.2020.101825
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