Empirical Research Result in Korean Derivatives Market

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Empirical research result in Korean derivatives market

4.2.1 Data

The paper took the research period during 5/3/1996 – 8/31/2001. The data set as follows: (1) transaction price data for the KOSPI 200 futures and the KOSPI 200 cash with 1- minute intervals, (2) use an annualized call rates as an interest rate, (3) KOSPI 200 index dividends, and (4) daily cash trading volume for both the cash-and-carry arbitrage and the reverse cash-and-carry arbitrage.

4.2.2 Violations of No-Arbitrage Pricing Conditions

Consider the topic of index arbitrage opportunities. We observed the violations of the no-arbitrage conditions for the 5/3/96 – 8/31/01 period. If the actual price is higher than upper bound (FH), the case is denoted by ‘over-priced’. If the actual price is lower than the lower bound (FL), the case is denoted by ‘under-price’. Finally, ‘fairly priced’ is the case when the actual price is within no-arbitrage pricing band:

(St  .025  .003St) (1 + r(Tt)/365)  DT  .05  Ft

 (St + .025) (1 + r(Tt)/365)  DT + .05 + .003ST (4.5)

Also, we could get the arbitrage profit (F  FH) and (FL  F) for over-priced and under-priced cases, respectively.

4.2.3 Ex Post Result

Idealistically, arbitrage position could be taken at the moment when ‘over-priced’ or ‘under-priced’ cases occur. An ‘ex post arbitrage strategy’ assumes such an ideal situation. In real arbitrage trading, we cannot avoid to the tracking error of a basket portfolio, thus, an arbitrage trading may not necessarily lead to profits. But we suppose zero tracking error for simplicity. Now, we examine the profitability of index arbitrage between the KOSPI 200 futures and cash under the assumptions ex post arbitrage and no tracking er...

... middle of paper ...

... The results for under-priced observations in Panels B are nearly the same with the result for mis-priced observations in Panel C. (3) However, the result for over-priced observations in Panel A is distinguishable with the other results in Panel B and Panel C. The arbitrage profit in 1999 is quite higher than in others years, and the frequency of over-priced in 1999 is also highest.

Works Cited

Jae Ha Lee, February 2002, Index Arbitrage with the KOSPI 200 Future

Leading Futures Market KRX, Korea Exchange

Ross, S. A., 1989, Information and Volatility: The No-arbitrage Martingale Approach to Timing and Resolution Irrelevancy, Journal of Finance 44, 1-17.

Sung C. Bae, Taekho Kwon, and Jongwon Park, 2004, Futures Trading, Spot Market Volatility, and Market Efficiency: The Case of the Korean Index Futures Markets, Journal of Futures Markets 24, 1195-1228

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