Trading strategy and behavior of various investor types between spot and futures market: evidence from Thailand

In rational, efficient market, returns on derivative and underlying securities should be perfectly contemporaneously correlated. Due to market imperfections, one of these two markets may reflect information faster. The thesis analyzes the lead-lag relationship between the spot market and futures market, SET50 index and its futures contract, for the Thailand market. Various econometric tools like unit root tests and the Error-Correction Model (ECM) were employed in the study. The Augmented Dickey Fuller tests employed in the study proved that both the selected markets were stationary series after first difference and the Granger Causality test proved unidirectional relationships between these markets. On the daily observations basis, the results show that there is a price discovery for the futures index. In other words, the lagged of changes in spot price has a leading effect to the changes in the futures price. Alternatively, the TDEX is used instead of the SET50 index to see any changes in the lead-lag relationship. The result proves that there is a leading effect between TDEX and SET50 index futures. The ECM, which utilizes the traditional linear model, is considered to be the best forecasting model. The trading strategy based on this model can outperform the market even after allowing for transaction costs. Moreover, this thesis studies the trading patterns of each investor type, which are foreign investors, institutional investors, and individual investors by using detailed records of trading activity, trading volume, and trading value by employing a unique data set of daily aggregated purchases and sales on the Stock Exchange of Thailand (SET) and the Thailand’s derivative market. The results show that the buying and selling investment flows of these three investor groups are ranked as follows; the majority trader in the Stock Exchange of Thailand (SET) is the individual investor, followed by the foreign investor, and the institutional investor. The corresponding ranking in the Thailand’s Derivative Market is the individual investor, then the institutional investor, and the foreign investor is the minority trader. The results provide empirical evidence that foreign investors were net buyers whereas institutional investors and individual investors were net sellers of equities in both the spot and the futures market of Thailand. For the feedback-trading pattern, the results show that in both the spot and the futures market; foreign investors are positive feedback or momentum traders. While, individual investors tend to be contrarian investors, or negative feedback traders. Institutional investors’ trading pattern in both spot and futures market is rather mixed results. Furthermore, the results show that foreign investors’ herding is positively correlated with institutional traders in spot market, while negatively correlated with institutional investors in futures market. Foreign investors’ herding is negatively correlated with individual investors in both spot and futures market. Institutional investors’ trade flow is positively correlated with individual investor in futures market whereas it is negatively correlated with individual investors in spot market. In addition, this thesis studies trading performance of various investor types, which are foreign investors, institutional investors, and individual investors on the Stock Exchange of Thailand (SET) and Thailand’s derivative market. The results reveal that different investor types can have different performance. Foreign investors who are more likely to have information advantage over other type make minor overall net trading gains in the futures market, their gains arise from the good market timing but likely to incur large losses in the spot market from negative price spreads between sell and buy prices. Individual investors in the spot market experience positive return, they have success in performance from price spread whereas they experience poor market timing return. Moreover, the results exhibit that individuals make losses on their trade in the futures market. Specifically, the results show that institutional investors make overall net trading gains from positive price spreads between sell and buy prices in both spot and futures market. The different performance might be due to mixed effect of the trading gains and losses arise from trades between investor types that have different backgrounds.