Stock price volatility, short sales restrictions, and price performance: evidence from SGX-DT futures and TAIFEX futures

Authors: Janchung Wang, Horace Chueh

Journal: Chiao Da Management Review. Dec. 2006, 26(2): 91-122.

Keywords:Pricing model of stock index futures; Short sales restrictions; Stochastic volatility

Abstract:
This paper highlights whether stock price volatility and some market imperfections, including trading volume and restrictions on the short selling of stocks, play an important role in determining the Taiwan stock index futures price. Moreover, we compare the price performance of three alternative pricing models of stock index futures: the cost of carry model, the Ramaswamy and Sundaresan (1985) model, and the Hemler and Longstaff (1991) model. The empirical result indicates that the performance of the Hemler and Longstaff model that incorporates stochastic interest rates and stochastic volatility is the best, followed by the Ramaswamy and Sundaresan model and then the cost of carry model. The empirical results of the impact of stock price volatility and some market imperfections on stock index futures price show that: (1) Stock price volatility plays an important role in determining the TAIFEX and the SGX-DT futures prices. (2) The relationship between the absolute pricing error and trading volume is significantly negative. (3)There is a negative effect of short sales restrictions on the absolute pricing error. This finding is contrary to the predicted effect. Moreover, the regression results of Hemler and Longstaff model also show that stock price volatility has an obvious impact on the prices of the TAIFEX and the SGX-DT futures.