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Futures hedging when the structure of the underlying asset changes: The case of the BIFFEX contract

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  • Manolis G. Kavussanos
  • Nikos K. Nomikos

Abstract

This article is concerned with the hedging effectiveness of futures contracts whose underlying asset is an index, when the structure of this index is changing. The case of the freight futures (BIFFEX) contract is examined here. Investigation of this issue is particularly interesting as the composition of its underlying asset, the Baltic Freight Index (BFI), has been revised on a number of occasions in order to improve the hedging performance of the market; previous empirical evidence on the market indicates substantially lower variance reduction (4–19%), compared to other markets (up to 98%). The BFI is a weighted average dry‐cargo freight rate index, compiled from actual freight rates on 11 shipping routes that are dissimilar in terms of vessel sizes and transported commodities. The hedging effectiveness of the market is investigated using both constant and time‐varying hedge ratios, estimated through bivariate error correction GARCH models. Our results indicate that the effectiveness of the BIFFEX contract as a centre for risk management has strengthened over the recent years as a result of the more homogeneous composition of the index. This by itself indicates that the latest restructuring of the index, in November 1999, which is aimed at increasing its homogeneity even further, is likely to have a beneficial impact on the market. © 2000 John Wiley & Sons, Inc. Jrl Fut Mark 20:775–801, 2000

Suggested Citation

  • Manolis G. Kavussanos & Nikos K. Nomikos, 2000. "Futures hedging when the structure of the underlying asset changes: The case of the BIFFEX contract," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 20(8), pages 775-801, September.
    • Handle: RePEc:wly:jfutmk:v:20:y:2000:i:8:p:775-801
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    Cited by:

    1. Michael S. Haigh & Nikos K. Nomikos & David A. Bessler, 2004. "Integration and Causality in International Freight Markets: Modeling with Error Correction and Directed Acyclic Graphs," Southern Economic Journal, John Wiley & Sons, vol. 71(1), pages 145-162, July.
    2. Alexandridis, George & Kavussanos, Manolis G. & Kim, Chi Y. & Tsouknidis, Dimitris A. & Visvikis, Ilias D., 2018. "A survey of shipping finance research: Setting the future research agenda," Transportation Research Part E: Logistics and Transportation Review, Elsevier, vol. 115(C), pages 164-212.
    3. Alizadeh, Amir H. & Huang, Chih-Yueh & van Dellen, Stefan, 2015. "A regime switching approach for hedging tanker shipping freight rates," Energy Economics, Elsevier, vol. 49(C), pages 44-59.
    4. Yuting Gong & Xueqin Wang & Mo Zhu & Ying‐En Ge & Wenming Shi, 2023. "Maximum utility portfolio construction in the forward freight agreement markets: Evidence from a multivariate skewed t copula," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 43(1), pages 69-89, January.
    5. Michael S. Haigh & David A. Bessler, 2004. "Causality and Price Discovery: An Application of Directed Acyclic Graphs," The Journal of Business, University of Chicago Press, vol. 77(4), pages 1099-1121, October.
    6. Roar Adland & Pierre Cariou & Francois-Charles Wolff, 2017. "What makes a freight market index ?," Post-Print hal-03913228, HAL.
    7. Jebabli, Ikram & Roubaud, David, 2018. "Time-varying efficiency in food and energy markets: Evidence and implications," Economic Modelling, Elsevier, vol. 70(C), pages 97-114.
    8. Manolis Kavussanos & Siri Pettersen Strandenes & Helen Thanopoulou, 2022. "Special issue: ends of eras and new beginnings: twenty-first century challenges for shipping," Maritime Economics & Logistics, Palgrave Macmillan;International Association of Maritime Economists (IAME), vol. 24(2), pages 347-367, June.
    9. Adland, Roar & Alizadeh, Amir H., 2018. "Explaining price differences between physical and derivative freight contracts," Transportation Research Part E: Logistics and Transportation Review, Elsevier, vol. 118(C), pages 20-33.
    10. Patrick McGlenchy & Paul Kofman, 2004. "Structurally Sound Dynamic Index Futures Hedging," Econometric Society 2004 Australasian Meetings 80, Econometric Society.
    11. Jian Yang & Titus Awokuse, 2003. "Asset storability and hedging effectiveness in commodity futures markets," Applied Economics Letters, Taylor & Francis Journals, vol. 10(8), pages 487-491.
    12. Koekebakker, Steen & Adland, Roar & Sødal, Sigbjørn, 2007. "Pricing freight rate options," Transportation Research Part E: Logistics and Transportation Review, Elsevier, vol. 43(5), pages 535-548, September.
    13. Adland, Roar & Cariou, Pierre & Wolff, Francois-Charles, 2017. "What makes a freight market index? An empirical analysis of vessel fixtures in the offshore market," Transportation Research Part E: Logistics and Transportation Review, Elsevier, vol. 104(C), pages 150-164.
    14. Park, Jin Suk & Shi, Yukun, 2017. "Hedging and speculative pressures and the transition of the spot-futures relationship in energy and metal markets," International Review of Financial Analysis, Elsevier, vol. 54(C), pages 176-191.
    15. Gu, Yimiao & Chen, Zhenxi & Lien, Donald & Luo, Meifeng, 2020. "Quantile hedge ratio for forward freight market," Transportation Research Part E: Logistics and Transportation Review, Elsevier, vol. 138(C).
    16. Steen Koekebakker * & Roar Os Ådland, 2004. "Modelling forward freight rate dynamics—empirical evidence from time charter rates," Maritime Policy & Management, Taylor & Francis Journals, vol. 31(4), pages 319-335, October.
    17. Roar Adland & Haiying Jia, 2017. "Simulating physical basis risks in the Capesize freight market," Maritime Economics & Logistics, Palgrave Macmillan;International Association of Maritime Economists (IAME), vol. 19(2), pages 196-210, June.
    18. Alexandridis, George & Sahoo, Satya & Song, Dong-Wook & Visvikis, Ilias, 2018. "Shipping risk management practice revisited: A new portfolio approach," Transportation Research Part A: Policy and Practice, Elsevier, vol. 110(C), pages 274-290.

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