Hedging with forwards and puts in complete and incomplete markets

Simon Benninga and Casper Oosterhof
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Casper Oosterhof: Groningen University

No 02E53, Research Report from University of Groningen, Research Institute SOM (Systems, Organisations and Management)

Abstract: We derive general conditions under which forward and/or put unbiasedness occurs and show that restrictions on the probability distribution suffice for simultaneous unbiasedness of forwards and puts, even if consumers are assumed to be risk averse. We examine the optimal production and hedging decisions by a risk-averse producer. If the producer’s state prices are derived from his marginal rates of substitution an unbiased market forward price is overpriced and an unbiased market put price is underpriced. Even in this case the full hedging and separation theorem still holds and, contrary to previous literature, there is a hedging role for puts.

Date: 2002
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