Under departures from the cost-of-carry theory, historical market information, conditional variance, and conditional correlation implied from emissions allowances futures markets have significant impacts on time-varying hedge ratios and hedging effectiveness.

The main innovation of this paper is that, under departures from the cost-of-carry theory, conditional volatility of spot prices, conditional volatility disturbed from futures market, and conditional correlation of market noises implied from spot and futures markets have significant effects on time-varying hedge ratios and hedging effectiveness.

Based on a pioneering study of cost-of-carry theory by Working [10] and Brennan [11], in the complete emissions allowances market, assumed emissions allowances markets have no transaction costs, no arbitrage behavior, and no storage costs; [S.sub.t] denotes spot price of emissions allowances, [F.sup.*.sub.t,T] denotes theoretical price of futures contracts for maturity T at time t, and r is the continuously compounded risk-free interest rate.

where [delta] denotes convenience yield of emissions allowances and r - [delta] denotes cost-of-carry of emissions allowances; the logarithmic equation (1) can be expressed as follows:

Among the topics are stocks, arbitrage and trading, the extended

cost-of-carry model, the multi-period binomial model, and interest rate swaps.

Absent seasonality, the convenience yield, timing options, or quality issues, the basis in a pure cost-of-carry market represents any storage fees plus the opportunity cost of capital.

One example of a pure cost-of-carry market is single stock futures which has both quarterly and serial contracts listed in the United States.

We show that in a pure cost-of-carry environment, there are few economic benefits for either type investor from listing serial month contracts in addition to quarterly expirations.

In this section, we consider whether there are additional net benefits to investors from listing serial month contracts in a pure cost-of-carry market.

If the spot asset cost-of-carry were constant, MRM and TRM regression [beta]s would be the same.

The cost-of-carry model cannot be used to control for changes in the hedge ratio caused by changes in the futures contract time-to-maturity or other changes in the conditioning information set (such as those discussed in Bell and Krasker, 1986; and Leistikow, 1993; and those empirically verified in Leistikow, 1989).

However, in the more mainstream, longer standing, and more widely accepted cost-of-carry literature (Working, 1949, is one of the seminal papers), the ([F.sub.Tt] - [P.sub.t]) term is known as the basis.