Futures and forward price differential and the effect of marking-to-market: Australian evidence

Abstract

The objective of this paper is to examine the effects of marking-to-market of futures contracts on the price differential between futures and forward contracts based on the predictions of the Cox, Ingersoll and Ross (1981) model. Cox, Ingersoll and Ross (1981) derive a series of propositions with respect to the relationship between futures and forward prices and a set of testable implications. These are tested empirically in this paper using Australian data from November 1991 to June 1997. The results provide evidence of the presence of significant futures and forward price difference, where futures price is consistently below foward price. Only partial support is found for the Cox, Ingersoll and Ross (1981) propositions, implying that the effect of marking-to-market is not a hie to fully account for the price differential. Therefore it is not possible to rule out the influence of other institutional factors on the futures-forward price difference.