How to hedge if the payment date is uncertain?

Olaf Korn and Alexander Merz

No 07-14 [rev.], CFR Working Papers from University of Cologne, Centre for Financial Research (CFR)

Abstract: This paper is the first to study the hedging of price risk with uncertain payment dates, a frequent problem in practice. It derives a variance-minimizing hedging strategy for two settings, the first employing linear contracts with different times to maturity and the second allowing for non-linear exotic derivatives. Using commodity prices and exchange rates, we empirically show the optimal strategy clearly outperforms heuristic alternatives in both settings. Non-linear instruments offer advantages with increasing hedge horizons and strongly dependent time and price risk, while linear instruments can suffice for short horizons and weak dependency.

Keywords: risk management; hedging; forwards; exotic derivatives; time uncertainty (search for similar items in EconPapers)
JEL-codes: D81 G30 (search for similar items in EconPapers)
Date: 2016
New Economics Papers: this item is included in nep-rmg
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Persistent link: https://EconPapers.repec.org/RePEc:zbw:cfrwps:0714r

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