The present study investigates the role of information in price discovery function and volatility spillover in Nifty and S&P CNX Nifty futures by employing two-step TGARCH procedures. First, the study examines short and long-run relationship between S&P CNX Nifty index and Nifty index futures in near month, next month and far month prices by employing Engle-Granger cointegration and error correction model. The results of cointegration test show that there is long-run equilibrium relationship between spot and futures markets, and the spot market tends to make adjustments to re-establish the equilibrium during the next period. The results of TGARCH model reveal a bidirectional volatility spillover between spot and near, middle and far month futures.

Price discovery and volatility transmission between spot and futures markets have received considerable attention from academics, policy makers and regulators for the following reasons. First, the issue is linked to information efficiency and arbitrage. Second, futures markets provide tools for price discovery of underlying assets, in which case futures prices should have useful information about succeeding spot prices, beyond that already embedded in the current spot price. Finally, the nature of volatility transmission between markets is also important for policy makers. The issue is significant from the financial stability perspective (a large shock in one market may have a destabilizing effect on the other market) and linkages across markets may have an impact on policy effectiveness. In addition, policy makers can design more effective policies if they are able to measure the depth and duration of the impact of any policy initiative in one financial market on other markets. Hence, it is important to study the price discovery and volatility spillover between spot and futures markets.

The price discovery between stock index and stock index futures has been the subject for many studies, which broadly found that price discovery appears first in futures market and is then transmitted to the spot market (Herbst et al., 1987; Kawaller et al., 1990; Chan et al., 1991; Lien and Tse, 2000; Yang et al., 2001; and Raju and Karande, 2003). This price discovery function implies that prices in the futures and spot markets are systematically related in the short run and/or in the long run. In the cointegration jargon, the price discovery function implies the presence of an equilibrium relation binding the two prices together. If a departure from equilibrium occurs, prices in one or both markets should adjust to correct the disparity.

Applied Economics Journal, TGARCH Model, Engle-Granger Cointegration, Error Correction Model, Futures Markets, financial economists, Value Line Composite Index, VLCI, National Stock Exchange, NSE, Augmented Dickey-Fuller, Commodity Futures Markets, Agricultural Economics.