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Hedging Effectiveness in the Index Futures Market

Laurence Copeland () and Yanhui Zhu

No E2006/10, Cardiff Economics Working Papers from Cardiff University, Cardiff Business School, Economics Section

Abstract: This paper addresses the question of how far hedging effectiveness can be improved by the use of more sophisticated models of the relationship between futures and spot prices. Working with daily data from six major index futures markets, we show that, when the cost of carry is incorporated in to the model, the two series are cointegrated, as anticipated. Fitting an ECM with a GJR-GARCH model of the variance process, we derive the implied optimal hedge ratios and compare their out-of-sample hedging effectiveness with OLS-based hedges. The results suggest little or no improvement over OLS.

Pages: 19 pages
Date: 2006-02
New Economics Papers: this item is included in nep-fmk, nep-for and nep-rmg
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Citations: View citations in EconPapers (5)

Forthcoming in Gregoriou, G.N. and R. Pascalau (eds.) Financial Econometrics Modelling: Derivatives Pricing and Hedge Funds and Term Structure Models, Palgrave-MacMillan, 2011.

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