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Futures versus Share Contracting as Means of Diversifying Output Risk

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  • Hirshleifer, David
  • Subrahmanyam, Avanidhar

Abstract

Two means by which commodity producers can reduce their exposure to quantity risk are share contracting and futures hedging. This paper explains the coexistence of these arrangements by showing that these will normally be complementary means of transferring risk. Share contracting by a purchaser with many producers can help diversify imperfectly correlated quantity risks. Futures contracts, on the other hand, hedge the systematic but not the idiosyncratic components of output risk. Thus, futures hedging helps to ameliorate the main disadvantage of multiple share contracting, an excessive loading of systematic risk on the purchaser. Copyright 1993 by Royal Economic Society.

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  • Hirshleifer, David & Subrahmanyam, Avanidhar, 1993. "Futures versus Share Contracting as Means of Diversifying Output Risk," Economic Journal, Royal Economic Society, vol. 103(418), pages 620-638, May.
    • Handle: RePEc:ecj:econjl:v:103:y:1993:i:418:p:620-38
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    Cited by:

    1. Lim, Sonya Seongyeon & Wang, Heli, 2007. "The effect of financial hedging on the incentives for corporate diversification: The role of stakeholder firm-specific investments," Journal of Economic Behavior & Organization, Elsevier, vol. 62(4), pages 640-656, April.
    2. van Koten, Silvester, 2021. "The forward premium in electricity markets: An experimental study," Energy Economics, Elsevier, vol. 94(C).
    3. Hendrik Bessembinder & Michael L. Lemmon, 2002. "Equilibrium Pricing and Optimal Hedging in Electricity Forward Markets," Journal of Finance, American Finance Association, vol. 57(3), pages 1347-1382, June.
    4. Longstaff, Francis A & Wang, Ashley, 2002. "ELECTRICITY FORWARD PRICES: A High-Frequency Empirical Analysis," University of California at Los Angeles, Anderson Graduate School of Management qt3mw4q41x, Anderson Graduate School of Management, UCLA.
    5. Koten, Silvester Van, 2020. "Forward premia in electricity markets: A replication study," Energy Economics, Elsevier, vol. 89(C).
    6. Dennis Frestad, 2018. "Managing earnings risk under SFAS 133/IAS 39: the case of cash flow hedges," Review of Quantitative Finance and Accounting, Springer, vol. 51(1), pages 159-197, July.
    7. Méndez Parra, Maximiliano, 2015. "Futures prices, trade and domestic supply of agricultural commodities," Economics PhD Theses 0115, Department of Economics, University of Sussex Business School.
    8. Valeria Di Cosmo & Elisa Trujillo-Baute, 2018. "From forward to spot prices: producers, retailers and loss averse consumers in electricity markets," Working Papers 2018/18, Institut d'Economia de Barcelona (IEB).
    9. Longstaff, Francis & Wang, Ashley, 2002. "Electricity Forward Prices: A High-Frequency Empirical Analysis," University of California at Los Angeles, Anderson Graduate School of Management qt7mh2m2bt, Anderson Graduate School of Management, UCLA.

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