[Using proprietary energy futures position data, we provide evidence that mean hedger profits are negative whereas speculator (especially hedge fund) profits are positive, that traders (whether speculators or hedgers) who hold net positions opposite in sign to likely hedgers in aggregate have higher profits than traders whose net positions align with likely hedgers, and that profits on long positions vary inversely with inventories and directly with price volatility. These findings are consistent with the risk premium, hedging pressure, and modern theory of storage hypotheses, respectively. Further, our findings suggest that commodity futures momentum may be due largely to hedging pressure.]

This paper estimates how the shape of the implied volatility smile and the size of the variance risk premium relate to parameters of GARCH-type time-series models measuring how conditional volatility responds to return shocks. Markets in which return shocks lead to large increases in conditional volatility tend to have larger variance risk premia than markets in which the impact on conditional volatility is slight. Markets in which negative (positive) return shocks lead to larger increases in future volatility than positive (negative) return shocks tend to have downward (upward) sloping implied volatility smiles. Also, differences in how volatility responds to return shocks as measured by GARCH-type models explain much, but not all, of the variations in excess kurtosis and multi-period skewness across different markets.

Using proprietary energy futures position data, we provide evidence that mean hedger profits are negative whereas speculator (especially hedge fund) profits are positive, that traders (whether speculators or hedgers) who hold net positions opposite in sign to likely hedgers in aggregate have higher profits than traders whose net positions align with likely hedgers, and that profits on long positions vary inversely with inventories and directly with price volatility. These findings are consistent with the risk premium, hedging pressure, and modern theory of storage hypotheses, respectively. Further, our findings suggest that commodity futures momentum may be due largely to hedging pressure.