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Price discovery in spot and futures markets: A reconsideration

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  • Theissen, Erik

Abstract

We reconsider the issue of price discovery in spot and futures markets. We use a threshold error correction model to allow for arbitrage operations to have an impact on the return dynamics. We estimate the model using quote midpoints, and we modify the model to account for time-varying transaction costs. We find that the futures market leads in the process of price discovery. The lead of the futures market is more pronounced in the presence of arbitrage signals. Thus, when the deviation between the spot and the futures market is large, the spot market tends to adjust to the futures market. --

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Bibliographic Info

Paper provided by University of Cologne, Centre for Financial Research (CFR) in its series CFR Working Papers with number 09-17.

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Date of creation: 2009
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Handle: RePEc:zbw:cfrwps:0917

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Keywords: Futures Markets; Threshold error correction; Information shares; Common factor weights;

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  1. Thorsten Freihube & Erik Theissen, 2001. "An Index Is An Index Is An Index?," Schmalenbach Business Review (sbr), LMU Munich School of Management, vol. 53(4), pages 295-320, October.
  2. Dwyer, Gerald P, Jr & Locke, Peter R & Yu, Wei, 1996. "Index Arbitrage and Nonlinear Dynamics between the S&P 500 Futures and Cash," Review of Financial Studies, Society for Financial Studies, vol. 9(1), pages 301-32.
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