Gold Derivatives: Gold Derivatives: - World Gold Council

Cohen (1999) shows that the introduction of index futures into four major equity
markets (US, Japan, Germany and UK) was accompanied by a significant fall
in variance ratios, which were generally above unity prior to the introduction of
futures contracts and which subsequently were insignificantly different from one.
As in bond markets, one can conclude that the introduction of futures trading
was accompanied by the underlying market becoming more efficient, but there is
no evidence of causation.
A study by Lee and Tong (1998) looks at the impact of the introduction of futures
trading on individual stocks in Australia. This is interesting because the
introduction of an index future may have impact either because of the opening of
a futures market as such, or because it facilitates trade in diversified baskets of
stocks. By contrast, the impact of the introduction of a future on an individual
stock must be due solely to the opening of a futures market on what was already
a traded underlying. Lee and Tong look at volatility and volume, and control for
other market wide changes in these variables by comparing with a sample of large
stocks on which no futures were traded. They find no evidence of a change in
volatility, but clear evidence of an increase in trading volume in those stocks where
futures are introduced.
3.4 Evidence from stock margins
The debate about the impact of futures markets on the cash market has been
paralleled by a debate about the impact of stock margins. Under the US Securities
Exchange Act of 1934, the Federal Reserve Board (FRB) has determined
the initial margin requirements for stocks. The lower the margin, the more that
an investor can leverage an initial cash outlay. If the level of stock margins does
have a significant impact on the volatility of prices, then it is highly plausible
that stock index futures would also have an impact on volatility, since they
provide far greater leverage.
Evidence to support this view is found in Hardouvelis (1988 and 1990) looking
at US stock price data since the 1930s. He finds a statistically significant negative
correlation between the level of margins and the volatility of returns on the S&P
500. The results have been strongly contested. In particular Hsieh and Miller
(1990) argue that the Hardouvelis results are based on faulty econometric techniques,
and that the data properly interpreted do not support his claims. Other
empirical studies of the issue have also failed to support Hardouvelis’ thesis. Kupiec
(1998), in a review article, concludes that ‘no substantial body of scientific evidence
supports the hypothesis that margin requirements can be systematically
altered to manage the volatility in stock markets’.
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