Consumption, Inflation Risk and Dynamic Hedging
Contemporary Economics, Vol. 9, No. 2, pp. 171-180, 2015
10 Pages Posted: 5 Sep 2015
Date Written: June 30, 2015
Our study examines the behavior of a risk-averse investor who faces two sources of uncertainty: a random asset price and inflation risk. Both sources of uncertainty make it difficult to stabilize consumption over time. However, investors can enter risk-sharing markets, such as futures markets, to manage these risks. We develop a dynamic risk management model. Optimal consumption and risk management strategies are derived. It is shown that dynamic hedging increases an investor’s welfare in terms of the expected inter-temporal utility of consumption.
Keywords: Dynamic hedging, asset price risk, inflation risk, real wealth, consumption
JEL Classification: D21, D24
Suggested Citation: Suggested Citation