The Role of Speculators in the Crude Oil Futures Market: Risk Sharing or Risk Taking

Abstract

This study examines the differing roles played by financial speculators in the short- and long-term trading within the crude oil futures market. Inspired by microstructure theory, we utilize the predictability of crude oil futures returns to infer whether speculators in different periods act as risk sharers or risk takers. Our research finds that in the long term, speculators receive a risk premium from hedgers for providing price insurance, but due to frequent short-term trading, speculators also have to pay a liquidity premium. Specifically, impatient speculators pay higher costs for short-term liquidity demands than the long-term speculative incentives they receive from hedgers. Additionally, we find heterogeneous information focuses and time-varying risk appetite within speculator groups. These divergences motivate institutional speculators to exit the market earlier during financial crises, while small speculators sustain hedging functions through persistent participation.