「FEEL」 Kim, B., Chun, S., and Min, H. (2010), “Nonlinear Dynamics in the Arbitrage of the S&P 500 Index and Futures: A Threshold Error-correction Model”, Economic Modelling, Vol. 27, pp. 566-573.
Lab: Financial Economics and Engineering Lab.
Professor: Hong-Ghi Min
Title: Nonlinear Dynamics in the Arbitrage of the S&P 500 Index and Futures: A Threshold Error-correction Model
Authors: Bong-Han Kim, Sun-Eae Chun, Hong-Ghi Min
Journal: Economic Modelling
Using a three-regime threshold error-correction model, we investigate the nonlinear dynamics of the S&P 500 index and futures. First, using the SupLM statistic, we report estimates of two thresholds for the three-regime model to explain the nonlinear dynamics in arbitrage of the S&P 500 index and futures. This provides empirical evidence of the no-arbitrage band predicted by the cost-of-carry model. Second, using quasi-maximum likelihood estimation, we demonstrate that those indexes that are located outside the no-arbitrage band are a nonlinear stationary process of mean-reversion to the no-arbitrage band. However, index and futures that are located within the no-arbitrage band are non-stationary. Third, we confirm an earlier finding that futures price leads the nonlinear mean-reverting behavior of the index but not vice versa. Impulse response function analysis and forecasting performance of three-regime error-correction model reinforce our findings and our estimation results are robust with different specifications of pricing error terms and endogenous variables.
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