The dynamic relations among return volatility, trading imbalance, and trading volume in futures markets

^aDepartment of Finance, National Chung Cheng University, Ming Hsiung, Chia Yi 621, Taiwan, ROC

^bCollege of Business Administration, and Center for International Studies, University of Missouri, St. Louis, One University Blvd., St. Louis, MO 63121, United States

^cDepartment of Finance, Ling Tung University, Nantun, Taichung 40852, Taiwan, ROC

Received 5 January 2008;

revised 17 January 2008;

accepted 19 January 2008.

Available online 13 February 2008.

Abstract

Trading imbalances reflect the quality of market information and may contain more information than the number of trades or trading volume. In order to better understand how trading imbalances play a role different from traditional variables (i.e., number of trades and trading volume) in explaining volatility, we use intraday data to examine the dynamic relations among return volatility, trading imbalances, and traditional variables for E-mini S&P 500 futures and Japanese Yen futures contracts, respectively. The Granger-causality tests indicate strong feedback effects between volatility and trading variables, confirming the information-based and hedging-based trading. We also compare the results of the traditional volumes and trading imbalances through variance decomposition and impulse responses analysis. It is shown that the sequential arrival of private information through trading imbalance is more important in explaining return volatility than the traditional variables, which are a proxy for the public information.

Keywords: Trading imbalance; Information-based trading; Hedging-based trading; Granger-causality test; Impulse response analysis

Article Outline

1. Introduction

2. Data and methodology

2.1. Data

2.2. Methodology

2.2.1. Volatility, trading imbalances and trading volume processes

2.2.2. Granger causality test

2.2.3. Variance decomposition

2.2.4. Impulse response analysis

3. Empirical results

4. Conclusion

References

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