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INTRODUCTION
The purpose of this research is to gain insights on the extent intraday stock index arbitrage activity in the Japanese financial markets, and in particular, to assess the ability of futures mispricings, lagged futures price changes and lagged cash index value changes to predict intraday stock price changes in the Nikkei 225 Stock Index. Results will be examined and contrasted with parallel studies on U.S. index futures and cash prices.
Index arbitrage entails massive intraday transactions involving stock indexes and their corresponding futures. Short term supply and/or demand imbalances in the traded equities comprising the indexes may result thus impacting the intraday price changes of the underlying stocks. Regarding the Japanese financial markets, prior to 1989, there was virtually no index arbitrage futures trading involving the Tokyo Exchange. However, such arbitrage activity increased significantly in 1990 and 1991.(1) Understanding the behavior and intraday price effects of futures and cash index trading in different world markets is of great significance to brokerage houses, investors, portfolio managers, regulators, legislators and the major global stock and futures exchanges.
The relevant literature is discussed in Section 2. Section 3 covers the research and the data base used in the study while the results are analyzed in Section 4. Section 5 reports the principal conclusions.
RELATED LITERATURE
Studies describing the theoretical pricing of stock index futures and the relevant trading boundaries of index arbitrage in-clude works by Cornell and French (1983a, 1983b), Figlewski (1984a, 1984b), Modest and Sundaresan (1983) and Stoll and Whaley (1987). Cumulatively, their research suggests that the theoretical prices of stock index futures should reflect interest earned and dividends foregone. Early empirical research to determine any predictive information in the intraday relationship between stock index futures and the underlying index includes studies by Kawaller, P. Koch and T. Koch (1987), Finnerty and Park (1987), Herbst, McCormack, and West (1987), Stoll and Whaley (1983a), Laatsch ad Schwarz (1988) and Swinnerton, Curcio and Bennett (1988). The above authors, using diverse empirical research designs, found that lagged futures returns are strong leading indicators of the subsequent intraday price movements in their underlying indexes. Stoll and Whaley (1988a, 1988b) explain that index futures perform a price discovery role, while Swinnerton, Curcio and Bennett (1988) found futures mispricings (the trigger...