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Hedging and Cash Flow Risk in Ethanol Refining

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  • Dahlgran, Roger A.

Abstract

Interviews with ethanol refinery risk managers reveal that, at least for the firms represented, (a) working capital to fund margin accounts is limited so the optimal deployment of this capital is a major concern, and (b) these firms hedge with smaller positions than those indicated by the traditional price risk minimization theory. In response to those observations, this study examines the relationship between hedge outcome price risk and price risk induced intra hedge cash flow risk. A simulation analysis of a simple long hedge indicates that the sum of hedge outcome risk and intra hedge cash flow risk is minimized at hedging levels well below the levels that minimize only the hedge outcome risk. The model is generalized to apply to a commodity processor using ethanol refining as a specific example. While the preliminary results are promising, data deficiencies prevent pursuing the analysis to its logical completion. Steps for extending this study using higher quality data are proposed.

Suggested Citation

  • Dahlgran, Roger A., 2011. "Hedging and Cash Flow Risk in Ethanol Refining," 2011 Conference, April 18-19, 2011, St. Louis, Missouri 285337, NCR-134/ NCCC-134 Applied Commodity Price Analysis, Forecasting, and Market Risk Management.
    • Handle: RePEc:ags:nccc11:285337
    DOI: 10.22004/ag.econ.285337
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    References listed on IDEAS

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