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Better cross hedges with composite hedging? Hedging equity portfoloios using financial and commodity features

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  • Fei Chen

    (ICMA Centre, University of Reading)

  • Charles Sutcliffe

    (ICMA Centre, University of Reading)

Abstract

Unless a direct hedge is available, cross hedging must be used. In such circumstances portfolio theory implies that a composite hedge (the use of two or more hedging instruments to hedge a single spot position) will be beneficial. Surprisingly, the study and use of composite hedging has been neglected; possibly because it requires the estimation of two or more hedge ratios. This paper demonstrates a statistically significant increase in out-of-sample effectiveness from the composite hedging of the Amex Oil Index using S&P500 and Nymex crude oil futures. This conclusion is robust to the technique used to estimate the hedge ratios, and to allowance for transactions costs, dividends and the maturity of the futures contracts.

Suggested Citation

  • Fei Chen & Charles Sutcliffe, 2007. "Better cross hedges with composite hedging? Hedging equity portfoloios using financial and commodity features," ICMA Centre Discussion Papers in Finance icma-dp2007-04, Henley Business School, University of Reading.
    • Handle: RePEc:rdg:icmadp:icma-dp2007-04
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