Understanding the non-convergence of agricultural futures via stochastic storage costs and timing options

Kevin Guo and Tim Leung

Journal of Commodity Markets, 2017, vol. 6, issue C, 32-49

Abstract: This paper studies the market phenomenon of non-convergence between futures and spot prices in the grains market. We postulate that the positive basis observed at maturity stems from the futures holder's timing options to exercise the shipping certificate delivery item and subsequently liquidate the physical grain. In our proposed approach, we incorporate stochastic spot price and storage cost, and solve an optimal double stopping problem to give the optimal strategies to exercise and liquidate the grain. Our new models for stochastic storage rates lead to explicit no-arbitrage prices for the shipping certificate and associated futures contract. We calibrate our models to empirical futures data during the periods of observed non-convergence, and illustrate the premium generated by the shipping certificate.

Keywords: Optimal multiple stopping; Storage cost; Agricultural futures; Mean reversion; Non-convergence; Basis (search for similar items in EconPapers)
JEL-codes: C41 D53 G13 (search for similar items in EconPapers)
Date: 2017
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4)

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Working Paper: Understanding the Non-Convergence of Agricultural Futures via Stochastic Storage Costs and Timing Options (2017)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:jocoma:v:6:y:2017:i:c:p:32-49

DOI: 10.1016/j.jcomm.2017.04.001

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