The Performance of the A0( ) Diffusion Model to Hedge a Forward Commitment in the Corn Market

C. de Ville de Goyet

Review of Business and Economic Literature, 2008, vol. LIII, issue 4, 444-474

Abstract: This paper offers an extensive out-of-sample empirical analysis of the problem of hedging a long-term forward exposure in the corn commodity market by trading in short-term commodity futures contracts. A closed-form pricing formula for the forward curve is derived using the canonical A0(N) representation of Dai and Singleton (2000), with N £ 3. The resulting optimal hedge ratio is a function of, among others, the hedging horizon and the maturity of the traded contracts used as hedge instruments, making the method straightforward to apply for longer hedging horizons. The out-of-sample hedging performance of the model strategies for hedging horizons of 10, 50 and 100 weeks are compared, in a meanvariance framework, to the no-hedge and one-to-one hedge strategies. The findings indicate that the A0(N) model strategies are generally better than the no-hedge and the one-toone hedge

Keywords: Hedging; agricultural markets; Kalman filtering; futures pricing (search for similar items in EconPapers)
JEL-codes: G13 Q14 (search for similar items in EconPapers)
Date: 2008
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Persistent link: https://EconPapers.repec.org/RePEc:ete:revbec:20080404

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