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Review of Quantitative Finance and Accounting
Published in:

14-12-2023 | Original Research

Realized higher moments and trading activity

Author: Shu-Fang Yuan

Published in: Review of Quantitative Finance and Accounting | Issue 3/2024

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Abstract

This study investigates the informativeness of realized higher moments of stock index returns, namely, realized skewness and kurtosis, in explaining trading activity in the futures market to investigate whether information flows from price risk to trading activity. By analyzing high-frequency data covering a twelve-year period, we discover that futures trading activity can be attributed to high-moment market risks, as observed in the significant explanatory power of realized high moments even after controlling for other risk factors. The results are robust to the use of various adjusted measures of high-moment risk, their subcomponents, various measures of trading activity, and data attributes. This study suggests that realized high moments are a market risk and cannot be combined with volatility risk and other risk measures. Most importantly, this study finds that there exists a flow of market information from price risk to trading activity.
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Appendix
Available only for authorised users
Footnotes
1
Roope and Zurbruegg (2002), Hsieh (2004), and Chou and Wang (2006) conducted research on the Taiwanese market and stated that the Taiwanese futures market is of high quality in terms of liquidity, transaction costs, pricing efficiency, and price discovery.
 
2
This inference is consistent with the conclusions of Hu, Li, Xiang, and Zhou (2023), who compared China and provided evidence to support that markets with a higher proportion of individual investors will be more sensitive to higher moment risks, which is quite different to mature markets.
 
3
Liu, Choo, Lee & Lee (2023) also suggest considering the sub-components of trading activity, they decompose trading volume into short-term and long-term messages and re-examine the relationship between trading volume and risk respectively.
 
4
We would like to thank the reviewers for suggesting the development of a VAR model to further account for the interaction between realized high-moment risk and trading activity and to control for the impact of risk-neutral high- moment risk calculated from option prices.
 
5
The 5-min intervals suggested by Andersen and Bollerslev (1999) are optimal in simulating the mean square error.
 
6
See also the suggestion of Bakshiet al. (1997, 2000).
 
7
TVol represents the total trading volume of contract transactions during a certain period, and its components include TNum, which represents the total number of shares traded, and TSize, which represents the number of shares per trade. These indicators are included in our research as proxies for trading activity.
 
8
This result is consistent with the findings of Zhang, Jin, Bouri, Gao, and Xu (2023a, 2023b), who concluded that higher moment risk provides additional information that volatility cannot reveal.
 
9
Following Brunnermeier (2009), the 2008 financial crisis is defined as the period from August 2007 to December 2008.
 
10
We also use integration areas [0.9S, 1.1S] and [0.8S, 1.2S] to calculate RNS and then examine the return predictive effect of RNS on spot market returns during periods of sentiment-driven overreaction. Both of the resulting effects are significant and similar to the results obtained using the integration area [0.85S, 1.15S].
 
11
For fitting a smoothing IV curve in calculating RNS, we follow Jiang and Tian (2005, 2007) by applying cubic splines. If the lowest strike price is higher than 0.85S or the highest strike price is lower than 1.15S in the sample, we conduct a linear extrapolation with the slope, which is set as the slope value adjacent to the cubic spline. Based on the aforementioned fitted IV curve, we translate the extrapolated IVs obtained for all strike prices into option prices using the Black–Scholes (1973) model. Finally, we derive RNS from the option prices using Eqs. (1a)–(6a).
 
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Metadata
Title
Realized higher moments and trading activity
Author
Shu-Fang Yuan
Publication date
14-12-2023
Publisher
Springer US
Published in
Review of Quantitative Finance and Accounting / Issue 3/2024
Print ISSN: 0924-865X
Electronic ISSN: 1573-7179
DOI
https://doi.org/10.1007/s11156-023-01227-3

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