Abstract
We test the forecasting power and information content of lumber futures prices traded on the Chicago Mercantile Exchange, from 1995 to 2013, at four forecast horizons. A Mincer-Zarnowitz regression finds evidence of statistically significant forecasting power at all forecast horizons. The results also support the presence of a time-varying risk premium for the shorter forecast horizons. A Granger causality test provides evidence that lumber futures prices lag spot prices in information assimilation over longer forecast horizons, while neither lagging nor leading over shorter forecast horizons.
Highlights
A futures contract is an instrument for trading commodity price risk
The realised change (RCT−t = log(ST) − log(ST−t)) and basis (FCT−t = log(FT−t) − log(ST−t)) data series were tested for nonstationarity using the Augmented Dickey-Fuller (ADF) test
The primary function of a futures contract is to serve as a mechanism for trading in price risk
Summary
A futures contract is an instrument for trading commodity price risk. Like forward contracts, traders in a commodity that are concerned about unpredictable spot price movements can lock in a price for a future trade by buying (taking a long position) or selling (taking a short position) a futures contract of suitable maturity on the commodity. Unlike forward contracts, futures contracts are marketable, allowing futures market participants to exit a contract before maturity by taking an offsetting position. Futures contract markets serve the function of price discovery by capturing information on future demand and supply conditions available to market participants, revealed by their buying and selling activities. Futures contract prices may serve as market forecasts of the future spot price of a commodity
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