The Untold Story of Commodity Futures in China

Abstract

We investigate the behavior of commodity futures risk premia in China. In the presence of retail-dominance and barriers-to-entry, the term structure and momentum premia remain persistent, whereas hedging pressure, skewness, volatility and liquidity premia are distorted by time-varying margins and strict position limits. Furthermore, open interest, currency and inflation premia are sensitive to institutional settings. The observed premia cannot be attributed to common risks, sentiment, transactions costs or data-snooping, but are related to liquidity, anchoring, and regulation-induced limits-to-arbitrage. We highlight the distinctive features of Chinese futures markets and assess the challenges posed to theories of commodity risk premia.

Keywords: China; Commodity futures; Position limits; Margins; Price discovery; Momentum; Term structure; Hedging pressure; Liquidity; Diversification

JEL Classification: G13, G14, G15, G41, N25, Q02