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Abstract

The purpose of this paper is to assess whether index investment Granger causes grain futures price movements during explosive periods. A forward and backward recursive procedure developed by Phillips, Shi, and Yu (2012) is used to detect and date-stamp explosive periods in in the price of corn, soybean, and wheat futures traded on the CBOT, as well as wheat futures traded on the KCBT between January 2004 and February 2012. The statistical tests indicate that most of these grain futures markets experienced explosive periods between the end of 2007 and first half of 2008, as well as in the second half of 2010. If CITs are indeed responsible for the sharp price fluctuations as claimed by Masters (2008, 2009) and others, they are mostly likely to have led the price movement during these explosive periods. Using dummy variables to reflect the explosive periods identified with the PSY procedure, we investigate the relationship between commodity index (CIT) positions and changes in futures prices. We find that no Granger causality can be established from changes in CITs net long positions to returns in corn, soybeans, and KC wheat futures in either explosive or non-explosive periods, consistent with the results from the traditional Granger causality test. For wheat futures traded on the CBOT, estimation results show that CITs Granger cause returns in explosive and non-explosive periods. Examination of the impulse response function, however, suggests that the effect is relatively small and dissipates quickly. Overall, the results from the modified Granger causality test January 2004 and February 2012.

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