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When do stock futures dominate price discovery

Author

Listed:
  • Nidhi Aggarwal

    (Indira Gandhi Institute of Development Research)

  • Susan Thomas

    () (Indira Gandhi Institute of Development Research)

Abstract

Stock futures offer leveraged positions and are expected to attract informed traders. However, many researchers have found that the information share of the stock futures is surprisingly small; the equity spot market appears to play a large role in price discovery. In this paper, we investigate this phenomenon and offer two findings. First, liquidity of the stock futures plays a major role in influencing price discovery. The securities where the spot market plays a major role tend to be those with illiquid stock futures. The enhanced transactions costs appear to counterbalance the gains from leveraged trading. In addition, when large price movements take place, the stock futures appear to play a much more important role. These findings help fill out our understanding of the role of the equity spot and single stock futures markets in price discovery.

Suggested Citation

  • Nidhi Aggarwal & Susan Thomas, 2011. "When do stock futures dominate price discovery," Indira Gandhi Institute of Development Research, Mumbai Working Papers 2011-016, Indira Gandhi Institute of Development Research, Mumbai, India.
  • Handle: RePEc:ind:igiwpp:2011-016
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    File URL: http://www.igidr.ac.in/pdf/publication/WP-2011-016.pdf
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    References listed on IDEAS

    as
    1. Susan Thomas, 2010. "Call auctions: A Solution to some difficulties in Indian finance," Indira Gandhi Institute of Development Research, Mumbai Working Papers 2010-006, Indira Gandhi Institute of Development Research, Mumbai, India.
    2. Gonzalo, Jesus & Granger, Clive W J, 1995. "Estimation of Common Long-Memory Components in Cointegrated Systems," Journal of Business & Economic Statistics, American Statistical Association, vol. 13(1), pages 27-35, January.
    3. Sapp, Stephen G., 2002. "Price Leadership in the Spot Foreign Exchange Market," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 37(03), pages 425-448, September.
    4. Bhattacharya, Mihir, 1987. "Price Changes of Related Securities: The Case of Call Options and Stocks," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 22(01), pages 1-15, March.
    5. Sugato Chakravarty & Huseyin Gulen & Stewart Mayhew, 2004. "Informed Trading in Stock and Option Markets," Journal of Finance, American Finance Association, vol. 59(3), pages 1235-1258, June.
    6. Stoll, Hans R. & Whaley, Robert E., 1990. "The Dynamics of Stock Index and Stock Index Futures Returns," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 25(04), pages 441-468, December.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    price discovery; single stock futures; leverage trading; liquidity effects;

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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