Optimal hedging under departures from the cost-of-carry valuation: Evidence from the Spanish stock index futures market
AbstractWe provide an analytical discussion of the optimal hedge ratio under discrepancies between the futures market price and its theoretical valuation according to the cost-of-carry model. Assuming a geometric Brownian motion for spot prices, we model mispricing as a speciâ¦c noise component in the dynamics of futures market prices. Empirical evidence on the model is provided for the Spanish stock index futures. Ex-ante simulations with actual data reveal that hedge ratios that take into account the estimated, time-varying, correlation between the common and specific disturbances, lead to using a lower number of futures contracts than under a systematic unit ratio, without generally losing hedging eÂ¤ectiveness, while reducing transaction costs and capital requirements. Besides, the reduction in the number of contracts can be substantial over some periods. Finally, a meanvariance expected utility function suggests that the economic benefits from an optimal hedge are substantial.
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Bibliographic InfoArticle provided by Elsevier in its journal Journal of Banking & Finance.
Volume (Year): 27 (2003)
Issue (Month): 6 (June)
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Web page: http://www.elsevier.com/locate/jbf
Other versions of this item:
- Alfonso Novales & J.A. Lafuente, 2002. "Optimal hedging under departures from the cost-of-carry valuation: evidence from the Spanish stock index futures market," Documentos del Instituto Complutense de AnÃ¡lisis EconÃ³mico 0223, Universidad Complutense de Madrid, Facultad de Ciencias Económicas y Empresariales.
- C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
- G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
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