An Empirical Analysis of Dynamic Multiscale Hedging using Wavelet Decomposition
AbstractThis paper investigates the hedging effectiveness of a dynamic moving window OLS hedging model, formed using wavelet decomposed time-series. The wavelet transform is applied to calculate the appropriate dynamic minimum-variance hedge ratio for various hedging horizons for a number of assets. The effectiveness of the dynamic multiscale hedging strategy is then tested, both in- and out-of-sample, using standard variance reduction and expanded to include a downside risk metric, the time horizon dependent Value-at-Risk. Measured using variance reduction, the effectiveness converges to one at longer scales, while a measure of VaR reduction indicates a portion of residual risk remains at all scales. Analysis of the hedge portfolio distributions indicate that this unhedged tail risk is related to excess portfolio kurtosis found at all scales.
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Bibliographic InfoPaper provided by arXiv.org in its series Papers with number 1103.4943.
Date of creation: Mar 2011
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Web page: http://arxiv.org/
Other versions of this item:
- Thomas Conlon & John Cotter, 2012. "An empirical analysis of dynamic multiscale hedging using wavelet decomposition," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 32(3), pages 272-299, 03.
- Thomas Conlon & John Cotter, 2011. "An Empirical Analysis of Dynamic Multiscale Hedging using Wavelet Decomposition," Working Papers, Geary Institute, University College Dublin 201104, Geary Institute, University College Dublin.
- C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games
- D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
- L14 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Transactional Relationships; Contracts and Reputation
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- Thomas Conlon & John Cotter, 2012.
"Downside risk and the energy hedger's horizon,"
Working Papers, Geary Institute, University College Dublin
201219, Geary Institute, University College Dublin.
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