Speculation in global commodity markets and its impact on agricultural and other commodity return volatility during the COVID-19 outbreak

Abstract

Because of the severe health crisis brought on by COVID-19, political unrest, and sanctions, the world's agriculture and other commodity markets are highly unstable and associated with price shocks and increased return volatility. Along with the pandemic-induced uncertainty, these markets are becoming more vulnerable to the steadily growing speculation on major commodity exchanges. The aim of this study is to investigate the relationships between financial speculation and commodity return volatility before and after the economic outbreak caused by COVID-19. This study focuses on four agricultural commodities: wheat, corn, soybeans, and oats traded on the Chicago Mercantile Exchange but also uses two commodities traded on the New York Mercantile Exchange: crude oil and gold. The study employs typical methods for time series analysis and the generalized autoregressive heteroscedasticity (GARCH) approach to model return volatility. To measure speculation, several indicators are employed: the ratio of futures contract trade volume to open interest to measure short-run speculation; and to measure long-run speculation, the ratio of non-commercial positions to commercial positions. Several key findings emerge. First, when analyzing the post-2020 period, the destabilizing effects of speculation can only be observed in the crude oil market. Second, long-run speculation is found to reduce volatility while short-run speculation increases it. Finally, among agricultural markets, the effects of speculation are mostly present in the corn market, but they diminish during the post-2020 timeframe. This has important practical implications. As commodity markets provide tools to hedge against price risks for agricultural and other commodity producers, active measures to limit speculation should be taken cautiously to ensure these markets remain sufficiently liquid