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 ofthe Cox, Ingersoll and Ross (1981) (CIR) model. Cox et al., (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 differences, where the futures price is consistently below the forward price. Only partial support is found for the Cox et al., (1981) propositions, implying that the effect of marking-tomarket is not able to fully account for the price differential. Therefore, it is not possible to rule out the influence of other institutional factors on the futuresforward price difference.