Does Hedging Affect Firm Value? Evidence from a Natural Experiment

We study how and why hedging affects firms. To mitigate the endogeneity of hedging decisions, we exploit an exogenous change in basis risk in the oil and gas industry. Using a difference-in-differences framework, we find that firms affected by the basis risk shock reduce investment, have lower valuations, sell assets, and reduce debt relative to control firms. Our findings are driven by firms with ex ante high leverage. Overall, our results provide evidence that reducing the probability of financial distress and underinvestment risk are first order channels through which hedging affects firm value.