Correspondence: Yilei Zhang, College of Business and Public Administration, University of North Dakota, Grand Forks, ND 58202, USA. E-mail: yilei.zhang@und.nodak.edu

¹is a Professor of Finance in the Department of Finance, College of Business and Public Administration, University of North Dakota, USA.

²is an Assistant Professor of Finance in the Department of Finance, College of Business and Public Administration, University of North Dakota, USA. She is a member of American Finance Association (AFA) and Financial Management Association (FMA).

Received 15 December 2008; Revised 15 December 2008.

Abstract

This paper tests the theory of normal backwardation versus forecasting theory in futures markets. The study examines the characteristics of price movements in 29 markets from 1987 to 2007. Empirical evidence indicates that both theories exist and the dominant mechanism varies in different markets. Despite the cross-sectional differences across futures markets, the prevailing mechanism in each market is relatively sustainable across time. The majority of the markets experience no change in the dominance of the functional mechanism. However, some markets do switch the dominant mechanisms over the sample period. The results have important implications on understanding the futures risk premium and the hedging needs in different futures markets.