London Stock Exchange Weak Form of Efficiency Test

London Stock Exchange Weak Form of Efficiency Test



London Stock Exchange Weak Form of Efficiency Test

Research Methodology

The paper's objectives are: to address the issue of co integration (efficient market hypothesis) between London spot and futures markets over the period of the crisis, 2005-2010; to investigate the short-run and long-run efficiency of the FTSE 100 shares stock index futures contract and FTSE 100 stock index futures contract traded on the FTSE 100 Shares. This paper examines efficiency of the London stock index futures market from 2005-2010. A variety of econometric models are employed to test for co integration between prices. The paper uses daily data from the FTSE 100 Shares. A more detailed discussion on the causal relationship between spot and futures price in ADEX is obtained by using the impulse response functions of the vector error-correction model (to study the behavior of series from real shocks).

The concept of market efficiency is very important to any investor who wishes to use the futures markets to hedge against price risk. If the efficient market hypothesis holds, this implies that the price at each point in time should include all available information about the underlining asset. Given past prices, no other information should improve prediction of futures price (Chowdhury, 2007, p. 577). Hence, when a market is efficient no arbitrage opportunities via trade strategies can be profitable. Market efficiency has an enormous impact to implications for international index futures/commodity agreement, domestic stabilisation schemes, and form of government intervention. The conventional approach for testing efficiency of the futures markets is by employing tests for weak or semi-strong form efficiency. These tests are introduced by Fama (2005), but during the 2005s and until mid-1980s, have been used by many other researchers.

For stock index futures markets, Clare and Miffre (2005) argue that the stock index futures market in France is weakly inefficient, while the model of the DFB Deutscher Aktien Index (DAX) stock index futures contracts presents correlations between the forecasting variables and the futures contract. Further, Antoniou and Holmes (2006) examine futures market efficiency and the unbiasedness hypothesis for the FTSE-100 stock index futures contract. They investigate both long-run and short-run efficiencies using cointegration and error-correction models (ECMs) and find that the market is efficient for contracts one and two months away from expiration. Buckle et al. (2009) also investigate the efficient market hypothesis (EMH) of the FTSE-100 stock index futures contract. They develop a forecasting model of FTSE-100 and they reject the hypothesis that the market is weak-form inefficient. Miffre (2007) investigates whether predictability of FTSE-100 futures returns is due to weak-form market inefficiency and examines the link between the variation in expected returns and time-varying risk and risk premia. His results confirm the EMH, since the predictability of FTSE-100 futures returns is consistent with a conditional multifactor model with time-varying moments.

Cointegration is an equilibrium measure of co-dependency that has many financial market applications. Wahab and Lashgari (2008) examine the dynamic linkages between the S&P 500 ...