Limits to arbitrage and hedging: Evidence from commodity markets

Viral Acharya, Lars A. Lochstoer and Tarun Ramadorai

Journal of Financial Economics, 2013, vol. 109, issue 2, 441-465

Abstract: We build an equilibrium model of commodity markets in which speculators are capital constrained, and commodity producers have hedging demands for commodity futures. Increases in producers' hedging demand or speculators' capital constraints increase hedging costs via price-pressure on futures. These in turn affect producers' equilibrium hedging and supply decision inducing a link between a financial friction in the futures market and the commodity spot prices. Consistent with the model, measures of producers' propensity to hedge forecasts futures returns and spot prices in oil and gas market data from 1979 to 2010. The component of the commodity futures risk premium associated with producer hedging demand rises when speculative activity reduces. We conclude that limits to financial arbitrage generate limits to hedging by producers, and affect equilibrium commodity supply and prices.

Keywords: Commodity markets; Futures pricing; Hedging; Limits to arbitrage (search for similar items in EconPapers)
JEL-codes: G00 G13 G32 Q49 (search for similar items in EconPapers)
Date: 2013
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (211)

Downloads: (external link)
http://www.sciencedirect.com/science/article/pii/S0304405X13000780
Full text for ScienceDirect subscribers only

Related works:
Working Paper: Limits to Arbitrage and Hedging: Evidence from Commodity Markets (2011)
Working Paper: Limits to Arbitrage and Hedging: Evidence from Commodity Markets (2009)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:109:y:2013:i:2:p:441-465

DOI: 10.1016/j.jfineco.2013.03.003

Access Statistics for this article

Journal of Financial Economics is currently edited by G. William Schwert

More articles in Journal of Financial Economics from Elsevier
Bibliographic data for series maintained by Catherine Liu ().