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What Does Futures Market Interest Tell Us about the Macroeconomy and Asset Prices?

Last Updated on 10 February, 2024 by Rejaul Karim

The study, “What Does Futures Market Interest Tell Us about the Macroeconomy and Asset Prices?” presents a thought-provoking reexamination of the traditional understanding of futures prices and their implications for future economic activity and asset prices.

Authored by Harrison G. Hong and Motohiro Yogo, the research argues for the potential informational superiority of open interest over futures prices, particularly in the context of hedging demand and limited risk absorption capacity in futures markets.

The study uncovers a highly pro-cyclical nature of open interest movements, demonstrating strong correlations with both macroeconomic activity and asset prices.

Notably, the findings reveal that changes in commodity market interest are predictive of commodity returns, bond returns, and short rate movements, even after accounting for other established predictors. This nontraditional perspective offers valuable insights into the predictive power of open interest across various financial markets.

Abstract Of Paper

Economists have traditionally viewed futures prices as fully informative about future economic activity and asset prices. We argue that open interest could be more informative than futures prices in the presence of hedging demand and limited risk absorption capacity in futures markets. We find that movements in open interest are highly pro-cyclical, correlated with both macroeconomic activity and movements in asset prices. Movements in commodity market interest predict commodity returns, bond returns, and movements in the short rate even after controlling for other known predictors. To a lesser degree, movements in open interest predict returns in currency, bond, and stock markets.

Original paper – Download PDF

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Author

Harrison G. Hong
Columbia University, Graduate School of Arts and Sciences, Department of Economics; National Bureau of Economic Research (NBER)

Motohiro Yogo
Princeton University – Department of Economics; National Bureau of Economic Research

Conclusion

In conclusion, the study on the relationship between futures market interest and the macroeconomy offers a paradigm-shifting perspective on the predictive power of open interest in financial markets.

Contrary to the traditional reliance on futures prices, the research emphasizes the potential of open interest as a more informative indicator, especially given hedging demand and capacity constraints in futures markets.

The findings underscore the highly pro-cyclical nature of open interest movements, establishing strong correlations with both macroeconomic activity and asset prices. Notably, the predictive capacity of commodity market interest extends to commodity returns, bond returns, and short rate movements, even after accounting for established predictors.

Furthermore, while to a lesser degree, open interest movements exhibit predictive power for returns in currency, bond, and stock markets, thereby offering valuable insights into the multi-faceted interplay between open interest and asset price movements.

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FAQ

Q1: What is the main argument presented in the study on “What Does Futures Market Interest Tell Us about the Macroeconomy and Asset Prices?” by Harrison G. Hong and Motohiro Yogo?

A1: The main argument in the study is a reexamination of the traditional view that futures prices are fully informative about future economic activity and asset prices. The authors argue for the potential informational superiority of open interest over futures prices, particularly in the presence of hedging demand and limited risk absorption capacity in futures markets.

Q2: What does the study reveal about the nature of open interest movements and their correlations?

A2: The study finds that movements in open interest are highly pro-cyclical, indicating a strong correlation with both macroeconomic activity and movements in asset prices. This suggests that open interest can serve as an informative indicator of economic and financial market conditions.

Q3: What are the key findings regarding the predictive power of commodity market interest (open interest) in various financial markets?

A3: The findings highlight that changes in commodity market interest (open interest) are predictive of commodity returns, bond returns, and movements in the short rate. Importantly, this predictive capacity persists even after controlling for other established predictors. Additionally, to a lesser degree, open interest movements also exhibit predictive power for returns in currency, bond, and stock markets. This nontraditional perspective provides valuable insights into the predictive role of open interest across diverse financial markets.

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