Index Arbitrage and the Pricing Relationship between Australian Stock Index Futures and Their Underlying Shares

42 Pages Posted: 25 Aug 2008 Last revised: 24 Nov 2011

James R. Cummings

Macquarie University, Faculty of Business and Economics; Centre for International Finance and Regulation (CIFR)

Alex Frino

The University of Sydney - Discipline of Finance; Financial Research Network (FIRN)

Date Written: December 2008

Abstract

This paper examines the mispricing of Australian stock index futures. Exogenous and endogenous price volatility is confirmed to have a positive impact on the mispricing spread, after filtering out predictable time series components. More accurate pricing associated with surprise trading volume in the underlying stocks is consistent with arbitrageurs acting to narrow price disparities relative to the futures market. Ex-ante interest rate volatility is the primary source of risk faced by arbitrageurs and fluctuations in the market impact cost of opening index arbitrage positions influence the extent to which they drive prices towards theoretical fair values.

Keywords: Stock index futures, Arbitrage, Market efficiency

JEL Classification: G13, G14

Suggested Citation

Cummings, James R. and Frino, Alex, Index Arbitrage and the Pricing Relationship between Australian Stock Index Futures and Their Underlying Shares (December 2008). Available at SSRN: https://ssrn.com/abstract=1252643 or http://dx.doi.org/10.2139/ssrn.1252643

James R. Cummings

Macquarie University, Faculty of Business and Economics ( email )

Australia

Centre for International Finance and Regulation (CIFR) ( email )

Level 7, UNSW CBD Campus
1 O'Connell Street
Sydney, NSW 2000
Australia

Alex Frino (Contact Author)

The University of Sydney - Discipline of Finance ( email )

Futures Research Centre
P.O. Box H58
Sydney NSW
Australia
+61 2 9299 1809 (Phone)
+61 2 9299 1830 (Fax)

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

HOME PAGE: http://www.firn.org.au

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