Studies Conducted in estimating hedge ratios

HedgingRisk undersurface be defined as whatever variety from an expected outcome. So, if an investor does not receive any expected returns, he may call it a ? find? (Stein, 1961). The risk sight be reduced by taking a bait opposite to ghost and the future markets simultaneously, so that any aggrieve sustained from an adverse wrong movement in champion market should to some degree be offset by a favourable price movement in the former(a). This is sleep with as hedging. To reduce risk, the disheartenr determines a hedge ratio, i.e. the go of futures contracts to profane or sell for each unit of blob commodity on which he bears price risk. Like any other derivative, futures contracts can be used as an redress against bad price fluctuations (Johnson, 1960). The hedge ratio which minimizes the variance of the returns of a portfolio containing the spot and the future positions is known as the optimal hedge ratio. The seek for better hedge has been the motive for so phisticated risk commission and hedging techniques. Therefore, it is important for the hedger to select an trance mould for reliable estimates of the optimal hedge ratios and knowledge of the diffusion of the grand and the future prices. Initially, the prices were assumed to follow a ergodic offer with price changes being identically and independently distri scarcelyed (Bachelier, 1990).

However, legion(predicate) stock exponent and commodity price changes appeared not to be independent but rather to be characterized by quiesce and volatile periods as variances change over time, following Mandelbrot (1963) and Fama ( 1965). The monotonic distributions of price! changes were also found to be fat-tailed, or leptokurtic. Consequently, researchers began describing price changes with non-normal distributions, such as the stable Paretian (Gordon, 1985). Therefore, knowledge of the distribution of cash and future prices is pivotal in constructing... If you want to get a full essay, set up it on our website: OrderCustomPaper.com

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