Forecasting Commodity Futures Returns: An Economic Value Analysis of Macroeconomic vs. Specific Factors
37 Pages Posted: 3 Aug 2018 Last revised: 14 Nov 2018
Date Written: July 26, 2018
We test whether three well-known commodity-specific variables (basis, hedging pressure, and momentum) may improve the predictive power for commodity futures returns of models otherwise based on macroeconomic factors. We compute recursive, out-of-sample forecasts for fifteen monthly commodity futures return series, when estimation is based on a stepwise model selection approach under a probability-weighted regime-switching regression that identifies different volatility regimes. Comparisons with an AR(1) benchmark show that the inclusion of commodity-specific factors does not improve the forecasting power. We perform a back-testing exercise of a mean-variance investment strategy that exploits any predictability of the conditional risk premium of commodities, stocks, and bond returns, also taking into account transaction costs caused by portfolio rebalancing. The risk-adjusted performance of this strategy does not allow us to conclude that any forecasting approach outperforms the others. However, there is evidence that investment strategies based on commodity-specific predictors outperform the remaining strategies in the high-volatility state.
Keywords: stepwise regression, commodity returns, predictability, portfolio back-testing
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