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Research output: Contribution to Journal/Magazine › Journal article › peer-review
Research output: Contribution to Journal/Magazine › Journal article › peer-review
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TY - JOUR
T1 - Cross hedging under multiplicative basis risk
AU - Adam-Müller, Axel
AU - Nolte, Ingmar
PY - 2011/11
Y1 - 2011/11
N2 - Cross hedging price risk in an incomplete financial market creates basis risk. We propose a new way of modeling basis risk where price risk and basis risk are combined in a multiplicative way. Under this specification, positive prudence is a necessary and sufficient condition for underhedging in an unbiased market. Using the example of cross hedging jet fuel price risk with crude oil futures, we show that the new specification is superior in describing the price series and that optimal cross hedges differ significantly from those derived under the traditional additive cross hedging model.
AB - Cross hedging price risk in an incomplete financial market creates basis risk. We propose a new way of modeling basis risk where price risk and basis risk are combined in a multiplicative way. Under this specification, positive prudence is a necessary and sufficient condition for underhedging in an unbiased market. Using the example of cross hedging jet fuel price risk with crude oil futures, we show that the new specification is superior in describing the price series and that optimal cross hedges differ significantly from those derived under the traditional additive cross hedging model.
KW - risk management
KW - cross hedging
KW - basis risk
KW - prudence
KW - jet fuel
KW - crude oil futures
KW - vector error
KW - correction model
U2 - 10.1016/j.jbankfin.2011.03.022
DO - 10.1016/j.jbankfin.2011.03.022
M3 - Journal article
VL - 35
SP - 2956
EP - 2964
JO - Journal of Banking and Finance
JF - Journal of Banking and Finance
SN - 0378-4266
IS - 11
ER -