Stock Volatility and the Levels of the Basis and Open Interest in Futures Contracts

Authors

  • NAI-FU CHEN,

  • CHARLES J. CUNY,

  • ROBERT A. HAUGEN

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    • The authors are from the University of California, Irvine. Chen is also affiliated with Hong Kong University of Science and Techology. We are grateful to K. C. Chan, Merton Miller, an anonymous referee, René Stulz (the editor) and workshop participants at University of California, Irvine, INSEAD, Hong Kong University of Science and Technology, Kathelieke Universiteit te Leuven, University of California, Los Angeles, University of Southern California, Swedish School of Economics, and the University of Rhode Island for helpful comments, Paine-Webber for some of the data, and James Berens and Feng Zhang for research assistance.

ABSTRACT

This article tests a theoretical model of the basis and open interest of stock index futures. The model is based on the differences between stock and futures in terms of investors' ability to customize stock portfolios and liquidity. Empirical evidence confirms the model's prediction that increased volatility decreases the basis and increases open interest.

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