Beyond the Minimum Variance Hedge
17 Pages Posted: 23 Feb 2007
Date Written: January 5, 2007
In this note a general model of optimal hedging is studied which emcompasses most other existing hedging models. Assuming a convex form of the function of deadweight costs, the optimal hedging strategy is discussed. An analogy to the analysis of behavior towards risk of an expected utility maximizer can be used to characterize the class of optimal hedging behaviors in the case of both complete and incomplete markets. Finally, the question which risks should be hedged is addressed. Such risks are characterized by a function of the convexity of the deadweight costs and the marginal impact of the available hedging instruments on the risks under consideration. For simple hedging instruments like futures the optimal hedging strategy and the hedge ratios are presented.
Keywords: Risk management, Hedging
JEL Classification: D81, G13, G31
Suggested Citation: Suggested Citation