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Testing Co-Volatility spillovers for natural gas spot, futures and ETF spot using dynamic conditional covariances

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  • Chang, Chia-Lin
  • McAleer, Michael
  • Wang, Yanghuiting

Abstract

There is substantial empirical evidence that energy and financial markets are closely connected. As one of the most widely-used energy resources worldwide, natural gas has a large daily trading volume. In order to hedge the risk of natural gas spot markets, a large number of hedging strategies can be used, especially with the rapid development of natural gas derivatives markets. These hedging instruments include natural gas futures and options, as well as Exchange Traded Fund (ETF) prices that are related to natural gas stock prices. The volatility spillover effect is the delayed effect of a returns shock in one physical, biological or financial asset on the subsequent volatility or co-volatility of another physical, biological or financial asset. Investigating volatility spillovers within and across energy and financial markets is a crucial aspect of constructing optimal dynamic hedging strategies. The paper tests and calculates spillover effects among natural gas spot, futures and ETF markets using the multivariate conditional volatility diagonal BEKK model. The data used include natural gas spot and futures returns data from two major international natural gas derivatives markets, namely NYMEX (USA) and ICE (UK), as well as ETF data of natural gas companies from the stock markets in the USA and UK. The data used for the empirical analysis is from 14 May 2007 to 15 April 2016, incorporating 2330 observations. The empirical results show that there are significant spillover effects in natural gas spot, futures and ETF markets for both USA and UK. Such a result suggests that both natural gas futures and ETF products within and beyond the country might be considered when constructing optimal dynamic hedging strategies for natural gas spot prices.

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  • Chang, Chia-Lin & McAleer, Michael & Wang, Yanghuiting, 2018. "Testing Co-Volatility spillovers for natural gas spot, futures and ETF spot using dynamic conditional covariances," Energy, Elsevier, vol. 151(C), pages 984-997.
    • Handle: RePEc:eee:energy:v:151:y:2018:i:c:p:984-997
    DOI: 10.1016/j.energy.2018.01.017
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    More about this item

    Keywords

    Energy; Natural gas; Spot; Futures; ETF; NYMEX; ICE; Optimal hedging strategy; Covolatility spillovers; Diagonal BEKK;
    All these keywords.

    JEL classification:

    • C58 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Financial Econometrics
    • D53 - Microeconomics - - General Equilibrium and Disequilibrium - - - Financial Markets
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • O13 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Agriculture; Natural Resources; Environment; Other Primary Products

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