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The Performance of the A0( ) Diffusion Model to Hedge a Forward Commitment in the Corn Market

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  • C. de Ville de Goyet
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    Abstract

    This paper offers an extensive out-of-sample empirical analysis of the problem of hedging a long-term forward exposure in the corn commodity market by trading in short-term commodity futures contracts. A closed-form pricing formula for the forward curve is derived using the canonical A0(N) representation of Dai and Singleton (2000), with N £ 3. The resulting optimal hedge ratio is a function of, among others, the hedging horizon and the maturity of the traded contracts used as hedge instruments, making the method straightforward to apply for longer hedging horizons. The out-of-sample hedging performance of the model strategies for hedging horizons of 10, 50 and 100 weeks are compared, in a meanvariance framework, to the no-hedge and one-to-one hedge strategies. The findings indicate that the A0(N) model strategies are generally better than the no-hedge and the one-toone hedge

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    File URL: http://www.econ.kuleuven.be/tem/jaargangen/2001-2010/2008/RBE%202008-4/2008-4%20-%20de%20Ville%20de%20Goyet.pdf
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    Bibliographic Info

    Article provided by Katholieke Universiteit Leuven, Faculteit Economie en Bedrijfswetenschappen in its journal Review of Business and Economics.

    Volume (Year): LIII (2008)
    Issue (Month): 4 ()
    Pages: 444-474

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    Handle: RePEc:ete:revbec:20080404

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    Web page: http://www.econ.kuleuven.be
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    Related research

    Keywords: Hedging; agricultural markets; Kalman filtering; futures pricing;

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