The Informational Role of Spot Prices and Inventories

Journal of Energy Markets, 2015

Resources for the Future Discussion Paper No. 12-45

23 Pages Posted: 23 Oct 2012

See all articles by James L. Smith

James L. Smith

affiliation not provided to SSRN

Rex Thompson

affiliation not provided to SSRN

Date Written: September 27, 2012

Abstract

We examine the role that spot markets and physical inventories play in revealing to uninformed traders the expectations of informed traders. Although many papers investigate potential mechanisms by which futures markets may disseminate such information, the role of spot markets has not been examined in comparable detail. Because the incentive for speculative trading in futures contracts stems from the failure of spot markets to eliminate differences in beliefs regarding future market conditions, the scope for speculative trading in the futures market is therefore determined, but also limited, by the extent to which spot market transactions disseminate private information. Using a rational expectations approach, we show that equilibrium differences in beliefs are determined by specific characteristics of the underlying commodity, including storage costs, the amplitude of unexpected demand and supply shocks, the accuracy of information acquired by informed investors, the numbers of informed and uninformed investors, and the elasticity of demand and supply.

Keywords: futures trading, speculation, inventories, private information

JEL Classification: D82, D84, G13, G14

Suggested Citation

Smith, James L. and Thompson, Rex W., The Informational Role of Spot Prices and Inventories (September 27, 2012). Journal of Energy Markets, 2015, Resources for the Future Discussion Paper No. 12-45, Available at SSRN: https://ssrn.com/abstract=2165531 or http://dx.doi.org/10.2139/ssrn.2165531

James L. Smith (Contact Author)

affiliation not provided to SSRN

Rex W. Thompson

affiliation not provided to SSRN

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