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Relaxing The Assumptions Of Minimum-Variance Hedging

  • Lence, Sergio H.

The most important minimum-variance hedging ration assumptions are (a) that production is deterministic and (b) that all of the agent’'s wealth is invested in the cash position. Stochastic production greatly reduces optimal hedge ratios. An alternative investment greatly reduces opportunity costs of not hedging by “"diluting"” the cash position. Stochastic production and/or alternative investments render the costs associated with hedging relatively more important, yielding almost negligible net benefits of hedging. Hence, hedging costs typically dismiss in hedging models for being seemingly negligible are important determinants of hedging behavior.

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File URL: http://purl.umn.edu/30990
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Article provided by Western Agricultural Economics Association in its journal Journal of Agricultural and Resource Economics.

Volume (Year): 21 (1996)
Issue (Month): 01 (July)
Pages:

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Handle: RePEc:ags:jlaare:30990
Contact details of provider: Web page: http://waeaonline.org/

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  1. Lence, Sergio H., 1995. "The Economic Value of Minimum-Variance Hedges," Staff General Research Papers 5053, Iowa State University, Department of Economics.
  2. Benninga, Simon & Eldor, Rafael & Zilcha, Itzhak, 1983. "Optimal hedging in the futures market under price uncertainty," Economics Letters, Elsevier, vol. 13(2-3), pages 141-145.
  3. Lence, Sergio H. & Kimle, Kevin & Hayenga, Marvin L., 1993. "A Dynamic Minimum Variance Hedge," Staff General Research Papers 10833, Iowa State University, Department of Economics.
  4. Kroll, Yoram & Levy, Haim & Markowitz, Harry M, 1984. " Mean-Variance versus Direct Utility Maximization," Journal of Finance, American Finance Association, vol. 39(1), pages 47-61, March.
  5. Tomek, William G., 1987. "Effects of Futures and Options Trading on Farm Incomes," Staff Papers 186718, Cornell University, Department of Applied Economics and Management.
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