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Relaxing Standard Hedging Assumptions in the Presence of Downside Risk

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Author Info

  • Mattos, Fabio
  • Garcia, Philip
  • Nelson, Carl H.

Abstract

The purpose of this study is to analyze how the introduction of a downside risk measure and less restrictive assumptions can change the optimal hedge ratio in the standard hedging problem. Based on a dataset of futures and cash prices for soybeans in the U.S., the empirical findings indicate that optimal hedge ratios change dramatically when a one-sided risk measure is adopted and standard assumptions are relaxed. Further, the results suggest that in a downside risk framework with realistic hedging assumptions there is little or no incentive for farmers to hedge.

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File URL: http://purl.umn.edu/19040
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Bibliographic Info

Paper provided by NCR-134 Conference on Applied Commodity Price Analysis, Forecasting, and Market Risk Management in its series 2005 Conference, April 18-19, 2005, St. Louis, Missouri with number 19040.

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Date of creation: 2005
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Handle: RePEc:ags:ncrfiv:19040

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Web page: http://www.agebb.missouri.edu/ncrext/ncr134/

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Keywords: Marketing;

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References

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  1. Donald Lien & Yiu Kuen Tse, 2000. "Hedging downside risk with futures contracts," Applied Financial Economics, Taylor and Francis Journals, vol. 10(2), pages 163-170.
  2. Demirer, Riza & Lien, Donald, 2003. "Downside risk for short and long hedgers," International Review of Economics & Finance, Elsevier, vol. 12(1), pages 25-44.
  3. Unser, Matthias, 2000. "Lower partial moments as measures of perceived risk: An experimental study," Journal of Economic Psychology, Elsevier, vol. 21(3), pages 253-280, June.
  4. Lence, Sergio H., 1995. "The Economic Value of Minimum-Variance Hedges," Staff General Research Papers 5053, Iowa State University, Department of Economics.
  5. Carl H. Nelson, 2004. "Toward exploring the location-scale condition: a constant relative risk aversion location-scale objective function," European Review of Agricultural Economics, Foundation for the European Review of Agricultural Economics, vol. 31(3), pages 273-287, September.
  6. Philip Garcia, 2004. "A selected review of agricultural commodity futures and options markets," European Review of Agricultural Economics, Foundation for the European Review of Agricultural Economics, vol. 31(3), pages 235-272, September.
  7. Babak Eftekhari, 1998. "Lower partial moment hedge ratios," Applied Financial Economics, Taylor and Francis Journals, vol. 8(6), pages 645-652.
  8. Robert A. Collins, 1997. "Toward a Positive Economic Theory of Hedging," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 79(2), pages 488-499.
  9. Gollier, Christian & Pratt, John W, 1996. "Risk Vulnerability and the Tempering Effect of Background Risk," Econometrica, Econometric Society, vol. 64(5), pages 1109-23, September.
  10. Lence, Sergio H., 1996. "Relaxing The Assumptions Of Minimum-Variance Hedging," Journal of Agricultural and Resource Economics, Western Agricultural Economics Association, vol. 21(01), July.
  11. Lien, Donald & Tse, Yiu Kuen, 2001. "Hedging downside risk: futures vs. options," International Review of Economics & Finance, Elsevier, vol. 10(2), pages 159-169.
  12. Peck, Anne E. & Nahmias, Antoinette M., 1989. "Hedging Your Advice: Do Portfolio Models Explain Hedging?," Food Research Institute Studies, Stanford University, Food Research Institute, issue 02.
  13. Turvey, Calum G. & Nayak, Govindaray, 2003. "The Semivariance-Minimizing Hedge Ratio," Journal of Agricultural and Resource Economics, Western Agricultural Economics Association, vol. 28(01), April.
  14. Chen, Sheng-Syan & Lee, Cheng-few & Shrestha, Keshab, 2003. "Futures hedge ratios: a review," The Quarterly Review of Economics and Finance, Elsevier, vol. 43(3), pages 433-465.
  15. Lien, Donald & Tse, Y K, 2002. " Some Recent Developments in Futures Hedging," Journal of Economic Surveys, Wiley Blackwell, vol. 16(3), pages 357-96, July.
  16. Grootveld, Henk & Hallerbach, Winfried, 1999. "Variance vs downside risk: Is there really that much difference?," European Journal of Operational Research, Elsevier, vol. 114(2), pages 304-319, April.
  17. Meyer, Jack, 1987. "Two-moment Decision Models and Expected Utility Maximization," American Economic Review, American Economic Association, vol. 77(3), pages 421-30, June.
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Cited by:
  1. Woodard, Joshua D. & Sherrick, Bruce J. & Schnitkey, Gary D., 2009. "Revenue Risk Reduction Impacts of Crop Insurance in a Multi-Crop Framework," 2009 Conference, April 20-21, 2009, St. Louis, Missouri 53043, NCCC-134 Conference on Applied Commodity Price Analysis, Forecasting, and Market Risk Management.
  2. Power, Gabriel J. & Vedenov, Dmitry V., 2008. "The Shape of the Optimal Hedge Ratio: Modeling Joint Spot-Futures Prices using an Empirical Copula-GARCH Model," 2008 Conference, April 21-22, 2008, St. Louis, Missouri 37609, NCCC-134 Conference on Applied Commodity Price Analysis, Forecasting, and Market Risk Management.

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