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A threshold error-correction model for intraday futures and index returns

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Author Info
Martin Martens (Department of Accounting and Finance, Lancaster University, Lancaster LA1 4YX, UK)
Paul Kofman (School of Banking and Finance, The University of New South Wales, Sydney, NSW 2052, Australia)
Ton C. F. Vorst (Department of Finance, Erasmus University Rotterdam and Erasmus Center for Financial Research,PO Box 1738, 3000 DR Rotterdam, The Netherlands)

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Abstract

Index-futures arbitragers only enter into the market if the deviation from the arbitrage relation is sufficiently large to compensate for transaction costs and associated interest rate and dividend risks. We estimate the band around the theoretical futures price within which arbitrage is not profitable for most arbitragers, using a threshold autoregression model. Combining these thresholds with an error-correction model, we show that the impact of the mispricing error is increasing with the magnitude of that error and that the information effect of lagged futures returns on index returns is significantly larger when the mispricing error is negative. © 1998 John Wiley & Sons, Ltd.

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File URL: http://qed.econ.queensu.ca:80/jae/1998-v13.3/
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Article provided by John Wiley & Sons, Ltd. in its journal Journal of Applied Econometrics.

Volume (Year): 13 (1998)
Issue (Month): 3 ()
Pages: 245-263
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Handle: RePEc:jae:japmet:v:13:y:1998:i:3:p:245-263

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  1. David McMillan, 2004. "Non-linear predictability of UK stock market returns," Money Macro and Finance (MMF) Research Group Conference 2003 63, Money Macro and Finance Research Group. [Downloadable!]
  2. Nick Taylor & Dick van Dijk & Philip Hans Franses & André Lucas, 1999. "SETS, Arbitrage Activity, and Stock Price Dynamics," Tinbergen Institute Discussion Papers 99-003/4, Tinbergen Institute. [Downloadable!]
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  3. J. Breitung & C. Wulff, . "Nonlinear Error Correction and the Efficient Market Hypothesis: The Case of German Dual-Class Shares," Sonderforschungsbereich 373 1999-67, Humboldt Universitaet Berlin.
  4. Anderson, H.M. & Vahid, F., 2001. "Market Architecture and Nonlinear Dynamics of Australian Stock and Future Indices," Monash Econometrics and Business Statistics Working Papers 3/2001, Monash University, Department of Econometrics and Business Statistics. [Downloadable!]
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  5. Mustapha Baghli, 2004. "Modelling the FF/MM rate by threshold cointegration analysis," Applied Economics, Taylor and Francis Journals, vol. 36(6), pages 533-548, April. [Downloadable!] (restricted)
  6. Nektarios Aslanidis & George Kouretas, 2003. "Testing for two-regime threshold cointegration in the parallel and official markets for foreign currency in Greece," Working Papers 0311, University of Crete, Department of Economics. [Downloadable!]
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  7. Massimo Guidolin & Stuart Hyde & David McMillan & Sadayuki Ono, 2009. "Non-linear predictability in stock and bond returns: when and where is it exploitable?," Working Papers 2008-010, Federal Reserve Bank of St. Louis. [Downloadable!]
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  8. D. van Dijk & T. Terasvirta & P.H. Franses, 2000. "Smooth transition autoregressive models - A survey of recent developments," Econometric Institute Report 200, Erasmus University Rotterdam, Econometric Institute. [Downloadable!]
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  9. David G. McMillan, 2009. "Non-linear interest rate dynamics and forecasting: evidence for US and Australian interest rates," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 14(2), pages 139-155. [Downloadable!]
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