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Price uncertainty, future markets and correlation

Author

Listed:
  • Harald Battermann
  • Udo Broll

Abstract

This paper examines the optimal trade and hedging decisions of a competitive exporting firm which faces concurrently hedgeable exchange rate risk and non-hedgeable inflation risk. The macroeconomic interaction between exchange rate and domestic inflation rate risk is described by a state variable. The (strong) correlation is pivotal in determining the optimal risk management. It is shown how optimal hedging strategies are affected by state-dependent preferences of the firm. The optimal hedge policy is to minimize the variation of marginal utility of final wealth across states of nature instead of minimizing the variance of final wealth.

Suggested Citation

  • Harald Battermann & Udo Broll, 2004. "Price uncertainty, future markets and correlation," International Economic Journal, Taylor & Francis Journals, vol. 18(2), pages 237-243.
    • Handle: RePEc:taf:intecj:v:18:y:2004:i:2:p:237-243
    DOI: 10.1080/1016873042000228358
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