Volatility Transmission of Oil and Gas Sector Stocks Returns with Stock Futures and Commodity Futures

Pakistan is a very volatile market in the eyes of both international and national investors. Market participants mostly use derivative instruments to protect their investments from price fluctuations. However, the use of a particular type of derivative in a trading strategy depends on the type of investors. Speculators and short-term profit seekers use stock futures, while portfolio managers use commodity futures to minimize their portfolio risk. Both types of traders need to develop strategies at the company level; therefore, this study aims to analyze volatility transmission between the stocks of oil and gas sector companies with stock futures and commodity futures (oil, gas, and gold). In this study, the relationship of selected companies in Pakistan’s oil and gas sector (exploration and marketing) are studied on three levels: the relationship of stock with its stock futures at the first level, related commodity futures at the second level, and with unrelated commodity futures at the third level. BEKK-GARCH was used to examine volatility transmission and asymmetric stock linkage with each future. The spillover index was calculated for every stock, with stock futures and each commodity future to determine each pair’s net transmitter or net receiver of volatility. The results determined that stock futures of all companies have no significant volatility transmission. In case of commodity futures, it was found that oil and gas have a natural relevance with the oil and gas sector; therefore, most companies from this sector have significant volatility transmission. Whereas, in case of gold as an unrelated instrument, it has no significant volatility transmission in most companies, thus proving itself to be an alternative investment option for portfolio managers.