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Optimal hedge ratios in the presence of common jumps
Author(s) -
Chan Wing Hong
Publication year - 2010
Publication title -
journal of futures markets
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.88
H-Index - 55
eISSN - 1096-9934
pISSN - 0270-7314
DOI - 10.1002/fut.20431
Subject(s) - futures contract , bivariate analysis , currency , econometrics , jump , portfolio , hedge , economics , spot contract , autoregressive conditional heteroskedasticity , financial economics , actuarial science , mathematics , statistics , monetary economics , volatility (finance) , ecology , physics , quantum mechanics , biology
This study derives optimal hedge ratios with infrequent extreme news events modeled as common jumps in foreign currency spot and futures rates. A dynamic hedging strategy based on a bivariate GARCH model augmented with a common jump component is proposed to manage currency risk. We find significant common jump components in the British pound spot and futures rates. The out‐of‐sample hedging exercises show that optimal hedge ratios which incorporate information from common jump dynamics substantially reduce daily and weekly portfolio risk. © 2009 Wiley Periodicals, Inc. Jrl Fut Mark 30:801–807, 2010