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Negative Correlation between Stock and Futures Returns: An Unexploited Hedging Opportunity?

The negative correlation between equity and commodity futures returns is widely perceived by investors as an unexploited hedging opportunity. A Lucas (1982) two-country asset-pricing model is adapted to analyze the fundamentals driving equity and commodity futures returns. Using the model we argue that such a negative correlation could arise as a no-arbitrage equilibrium phenomenon and reflect traders’ perceptions about the growth fundamentals in oil and GDP and does not necessarily indicate an arbitrage opportunity.

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