Empirical Research On Price Discovery Function Of Commodity Futures Market In China

Price discovery refers to the use of one market price for pricing the other market transactions. The nature of the price discovery function lies in whether new information is reflected first in changed futures prices or in changed cash prices. According to the existing theory, the futures market has price discovery function because its special market microstructure allows it to absorb information more rapidly and thoroughly, so it becomes the primary locus of informed trading and can price for cash market transactions. Chinese commodity futures market is a rising market, whether it has price discovery function is very important to affect our economic development and market economy system improvement.This thesis expatiates why the futures market has the function of price discovery at first. Using the tests of price lead-lag relationship and volatility spillovers effect, this thesis examines the price discovery function of Chinese commodity futures market, based on the data samples of copper contract of Shanghai futures exchange from Dec.30,2002 to may 28,2005 and aluminum contract of Shanghai futures exchange from Dec.30 ,2002 to June. 18,2005.The results of price lead-lag relationship test show that not only copper but also aluminum futures market have price discovery function. Furthermore, the cash market of aluminum also has some price discovery function. Futures market of copper performs about 86.8 per cent of the price discovery function and the cash market 13.2 per cent, which indicates that the futures market of copper dominants in information flow and price discovery.At the same time, the volatility spillovers test is performed by using vector error correction model and a modified EGARCH model, the results conclude that both copper contract and aluminum contract all show volatility spillovers from the futures market to the cash market but not vice versa. However, at the 10% significance level, there is volatility spillovers from cash market to futures market in aluminum contract. It is consistent with the result of price lead-lag relationship test, all show cash market of aluminum has some price discovery function.In a word, the implement of commodity futures trading in China reduces the volatility risk of price and performs the price discovery function, it facilitates the perfection of market economy system.