China's Shanghai And Shenzhen 300 Index Futures Pricing Research

Futures markets serve financial systems by making the markets for the underlying assets more efficient, by providing price discovery, by offering opportunities to trade at lower transaction costs, and by providing a means of managing risk. Stock index futures with a history of nearly three decades is one of the most successful types of futures contracts of all time.Pricing is a key issue for traders of stock index futures and academic researchers. There are many different pricing models of stock index futures, among which the cost of carry model is the most widely used in the world. This model was developed under the assumption of perfect markets and no-arbitrage arguments.China launched its first financial futures contract, the CSI 300 stock index futures, on April 16,2010 in the China Financial Futures Exchange. This report studies seven index futures traded in the one year from April 16,2010 by comparing daily closing prices of the index futures with daily closing prices of the CSI 300 stock index, the underlying stock index in the futures.This study uses the cost of carry model to get the theoretical prices of the stock index futures and finds the discrepancy between the theoretical and actual prices. The empirical study shows that the actual prices are pretty close to the theoretical prices, with both small mean percentage errors and mean absolute percentage errors. It is implied that the forecasting performance of the cost of carry model has been efficient for index futures in China up to now.Theoretical pricing models are all based on assumptions, and the perfect market assumption and other preconditions on which the cost of carry model is based are impractical in reality. Capital markets are not perfect or frictionless, and arbitrage mechanism cannot be complete, particularly for index arbitrage. Consequently, mispricing is normal. This study finds that mispricing is more significant for far-month futures than for near-month futures. Moreover, mispricing declines as the futures contracts approach to expiration.China, as the largest emerging market in the world, has an infant and imperfect financial market. But at the same time, China has several advantages. It can learn from the developed markets. The economy has been growing fast with a high speed for decades on end. The threshold of the CSI 300 index futures is very high, limiting the participation of private investors and improving the constituents of investors in China’s futures market.