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This paper aims to provide the necessity to activate long-term exchange-traded derivatives (ETD) in Korea. In the era of aging, low interest rates and low economic growth, the investment demand for long-term financial products, and its hedging demand have steadily increased. Unfortunately, long-term ETD do not trade in Korea, and this study presents political suggestions to invigorate long-term ETD based on overseas cases and empirical analysis. Specifically, this study suggests the necessity to activate exchange traded funds (ETFs) options, long-term Korea treasury bond futures and options and long-term Volatility Index of Korea Composite Stock Price Index future and options. The introduction of those long-term ETD not only contributes to providing long-term investment and hedging vehicles but also reduces market inefficiencies in the Korean industry of ETFs, bonds and structured products.

This study verifies the existence of implied volatility distortion by the rapid growth of structured products such as Equity Linked Securities (ELS) in Korean financial markets and provides the policy implications to overcome such a distortion. The most ELS products issued in Korea have a step-down auto-callable payoff structure consisting of short position in down-and-in barrier put options and long position in digital call options. Financial companies which have issued ELS are exposed to the volatility risk, i.e. long vega position, and tend to execute the volatility transactions of short vega. For instance, the financial companies issue Equity-Linked Warrants or sell listed/over-the-counter vanilla options, both of which have short position in volatility risk. Accordingly, the demand for selling volatility is stronger than for buying volatility in the Korean financial markets. According to the empirical results, we conform that the rapid growth of the ELS products induces the pressure for lowering volatility and furthermore, the volatility spreads, defined as the difference between implied volatility and realized volatility, also decrease with respect the amount of the newly issued ELS. Lastly, to mitigate the volatility distortion effect, we suggest to list VKOSPI-related derivatives securities such as VKOSPI futures and options, which in turn balance the trading demands for selling and buying volatilities.

As global exchanges have listed volatility derivatives competitively, volatility has been recognized as a new investment vehicle and/or a hedging means for traditional financial assets such as stocks and bonds. Following this trend, KRX has begun to announce VKOSPI from KOSPI200 index options prices since April 13, 2009 and listed VKOSPI futures on November 17, 2014. However, VKOSPI futures has still not been activated than those listed in developed countries. In this paper, we investigate the informational efficiency of VKOSPI futures and analyze the illiquidity problem of VKOSPI futures. More specifically, we execute a VAR analysis of VKOSPI, VKOSPI futures, VIX and VIX futures to find out their lead-lag relations. In addition, we further conduct a Granger causality test, impulse response analysis and variance decomposition to examine their dynamic relations. According to the results, we find that VKOSPI leads VKOSPI futures and that VIX and VIX futures lead VKOSPI and VKOSPI futures significantly. Based on the results above, lastly, we propose several policies to make the VKOSPI futures market more active and informative.

Given the importance of style allocation strategy under the outsourced chief investment officer (OCIO) structure, the authors examine the validity of style allocation strategies in the Korean stock market. The authors find that external investment agencies can improve performance by using newly suggested investment styles such as high dividend yield and low volatility as well as traditional styles. In addition, the authors find that the style combination strategies create economically large and statistically significant returns. Finally, empirical results indicate that factor timing strategies suggested in this study can improve the reward-to-risk ratio. In sum, the empirical findings indicate that external investment agencies under the OCIO structure can improve performance using active style allocation strategies.