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Review of Quantitative Finance and Accounting

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28-04-2020 | Original Research

Do futures lead the index under stress? Evidence from the 2015 Chinese market turmoil and its aftermath

Author: Shuxin Guo

Published in: Review of Quantitative Finance and Accounting | Issue 1/2021

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Abstract

Do index futures still lead the spot market over government intervention or under trading restrictions? This intriguing question can be explored in the context of the 2015 Chinese market turmoil with frequent government interventions and its aftermath when unprecedentedly severe restrictions were imposed on the trading of the CSI 300 index futures. The intraday price discovery, studied via VECM, became weakly bidirectional over the boom phase from October 2014 to June 2015, in contract to the index futures’ strong leading before the boom. The futures’ leading status weakened drastically over the crash phase between June and September 2015, probably due to the government’s interference with the stock market. Surprisingly, the futures under severe trading restrictions after the crash from September 2015 to June 2016 still led the spot weakly, and the volatility spillover to the index was somewhat significant. Policywise, the empirical findings imply that government interventions or trading restrictions weaken the functioning of markets.

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The price discovery literature covers commodity futures versus commodity, treasury futures versus treasury debts, foreign exchange (fx) futures versus fx rates, stocks across two markets, futures across two countries, carbon futures versus carbon emission right, etc. For brevity, the literature here is limited to stock index futures.

Please see the first paragraph of this section for references on stock index futures.

The size of such capital was estimated to be around 3.5 trillion Chinese Yuan, or about 13% of the total tradable market capitalization of the A-shares at the time.

The market was closed on September 3 and 4 as a special holiday for celebrating the seventieth anniversary of the defeat of the Japanese invasion.

Wind is the most comprehensive database on stocks, bonds, mutual funds, futures, RMB rates, and the economy in China (see www.wind.com.cn/en/about.html for more details). The 5 min quotes for 8 October 2014, missing from the Wind database, were provided by Xinran Wang of Huaxi Futures Co., Ltd.

In China, stocks trade between 9:30 and 11:30 AM and between 1:00 and 3:00 PM.

According to Wind, the most active contract is the one with the highest daily trading volume. A new contract is chosen as soon as its daily trading volume surpasses the current most active contract.

Daily returns are based on prices observed at 3:00 PM.

The R-package “strucchange” from cran.R-project.org was used to locate the number of break points between 0 and 5.

The terms are used loosely here and primarily as tags without any economic connotation. The partition can also be referred to as pre-crisis (normal), crisis (boom and bust), and post-crisis (restricted trading).

For example, the trading of up to over 1400 stocks (or over 40% of all listed firms in China) was suspended for days or even weeks temporarily. Further, major shareholders were prohibited to sell stocks, while twenty-one security firms in early July put up over 120 billion Chinese Yuan to buy stocks, so did the state-owned Central Huijin Investment Ltd.

In principle, Eq. (3) could be further extended with weakly exogenous variables. The unreported results of this paper shows that the coefficients of the exogenous variables are miniscule, which is quite similar to that of Yang et al. (2012). Therefore, it can be concluded that exogenous variables are economically irrelevant and will not be considered in this paper.

For brevity, the Wald statistics and the p values for the Wald tests are not provided explicitly.

The BEKK estimation is done by utilizing the “mgarch” function.

The anonymous referee is thanked for suggesting this robustness check.

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Title: Do futures lead the index under stress? Evidence from the 2015 Chinese market turmoil and its aftermath
Author: Shuxin Guo
Publication date: 28-04-2020
Publisher: Springer US
Published in: Review of Quantitative Finance and Accounting / Issue 1/2021
Print ISSN: 0924-865X
Electronic ISSN: 1573-7179
DOI: https://doi.org/10.1007/s11156-020-00887-9

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