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How should firms selectively hedge? Resolving the selective hedging puzzle

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  • Wojakowski, Rafał M.

Abstract

We provide a model of intertemporal hedging consistent with selective hedging, a widespread practice corroborated by recent empirical studies. We argue that the optimal hedge is a value hedge involving total current value of future earnings. More importantly, the hedging decision is independent of risk preferences of the firm or agent. Our closed-form solutions imply several implications for the risk management policy in a firm. In order to lock in profits a hedge increase is recommended in favorable states of nature, while in bad states the firm should decrease the hedge and wait. Our main new empirical implication is that selective hedging should be more prevalent in industries where managers are exposed to convex cash flow structures and are more likely to “value hedge” their exposures.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Corporate Finance.

Volume (Year): 18 (2012)
Issue (Month): 3 ()
Pages: 560-569

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Handle: RePEc:eee:corfin:v:18:y:2012:i:3:p:560-569

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Web page: http://www.elsevier.com/locate/jcorpfin

Related research

Keywords: Selective hedging; Value hedge; Financial forwards and futures; Long-term exposure;

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References

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Cited by:
  1. Luiz Rossi, José, 2013. "Hedging, selective hedging, or speculation? Evidence of the use of derivatives by Brazilian firms during the financial crisis," Journal of Multinational Financial Management, Elsevier, vol. 23(5), pages 415-433.

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