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Hedging and Nonlinear Risk Exposure

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  • Broll, Udo
  • Chow, Kong Wing
  • Wong, Kit Pong

Abstract

This paper documents some empirical evidence of nonlinear spot-futures exchange rates relationships and develops an expected utility model of an exporting firm to examine the associated economic implications. The model shows that the firm should export more (less) and adopt an over (under) hedge in an unbiased currency futures market if the spot-futures exchange rates relationships is convex (concave) rather than linear. When fairly priced currency options on futures are available, the firm should use them in conjunction with the currency futures so as to achieve better hedging against its nonlinear exchange rate risk exposure. This provides a rationale for the hedging role of options when the underlying uncertainty is nonlinear in nature. Copyright 2001 by Oxford University Press.

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Bibliographic Info

Article provided by Oxford University Press in its journal Oxford Economic Papers.

Volume (Year): 53 (2001)
Issue (Month): 2 (April)
Pages: 281-96

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Handle: RePEc:oup:oxecpp:v:53:y:2001:i:2:p:281-96

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Cited by:
  1. Broll, Udo & Eckwert, Bernhard, 2011. "Information value, export and hedging," Dresden Discussion Paper Series in Economics 03/11, Dresden University of Technology, Faculty of Business and Economics, Department of Economics.
  2. Udo Broll & Kit Wong, 2010. "Banking firm and hedging over the business cycle," Portuguese Economic Journal, Springer, vol. 9(1), pages 29-33, April.
  3. Broll, Udo & Wong, Kit Pong, 2003. "Capital structure and the firm under uncertainty," Dresden Discussion Paper Series in Economics 20/03, Dresden University of Technology, Faculty of Business and Economics, Department of Economics.
  4. Broll, Udo & Eckwert, Bernhard & Wong, Kit Pong, 2010. "International trade and the role of market transparency," Dresden Discussion Paper Series in Economics 08/10, Dresden University of Technology, Faculty of Business and Economics, Department of Economics.
  5. Broll, Udo & Wong, Kit Pong, 2002. "Optimal full-hedging under state-dependent preferences," The Quarterly Review of Economics and Finance, Elsevier, vol. 42(5), pages 937-943.
  6. Lien, Donald & Wong, Kit Pong, 2004. "Optimal bidding and hedging in international markets," Journal of International Money and Finance, Elsevier, vol. 23(5), pages 785-798, September.
  7. Aysun, Uluc & Guldi, Melanie, 2011. "Exchange rate exposure: A nonparametric approach," Emerging Markets Review, Elsevier, vol. 12(4), pages 321-337.
  8. Gilroy, Bernard Michael & Broll, Udo, 2005. "Managing Credit Risk with Credit Derivatives," MPRA Paper 17678, University Library of Munich, Germany.

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