Return Asymmetry in Commodity Futures

Abstract

This paper aims to examine the return asymmetry in commodity futures. Instead of using skewness as a proxy for the return asymmetry, we rely on a new asymmetric measure IE, that uses the difference between upside and downside return probabilities to capture the degree of asymmetry and has a low correlation to the original skewness effect. Our study documents that the high (low) IE commodities are overvalued (undervalued), and their subsequent returns are lower (higher). These results are consistent with the high (low) demand by the risk-averse investors for the high (low) IE commodities. A strategy that takes a long position in the bottom seven commodities with the lowest IE in the previous month and shorts the top seven commodities with the highest IE exhibits an economically large and statistically significant return. Besides, it can serve as a hedge to the stock portfolio because of its negative correlation with the stock market. Our results contribute to the existing literature by expanding an asymmetric measure IE to the new asset class.