48 Pages Posted: 25 Oct 2016 Last revised: 28 Jan 2017
Date Written: January 23, 2017
This paper explores stock return predictability by exploiting the cross-section of oil futures prices. Motivated by the principal component analysis, we find the curvature factor of the oil futures curve predicts monthly stock returns: a 1% per month increase in the curvature factor predicts 0.4% per month decrease in stock market index return. This predictive pattern is prevailing in non-oil industry portfolios, but is absent for oil-related portfolios. The in- and out-of-sample predictive power of the curvature factor for non-oil stocks is robust and outperforms many other predictors, including oil spot prices. The predictive power of the curvature factor comes from its ability to forecast supply-side oil shocks, which only affect non-oil stocks and are hedged by oil-related stocks.
Keywords: Oil, Futures, Predictability, Curvature, Futures Curve
JEL Classification: G12, G13, G17
Suggested Citation: Suggested Citation
Chiang, I-Hsuan Ethan and Hughen, W. Keener, Do Oil Futures Prices Predict Stock Returns? (January 23, 2017). Available at SSRN: https://ssrn.com/abstract=2856571