Optimal hedging with the cointegrated vector autoregressive model

Lukasz Gatarek and Soren Johansen
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Lukasz Gatarek: Econometric Institute and Tinbergen Institute, Erasmus University Rotterdam

No 14-22, Discussion Papers from University of Copenhagen. Department of Economics

Abstract: We derive the optimal hedging ratios for a portfolio of assets driven by a Cointegrated Vector Autoregressive model (CVAR) with general cointegration rank. Our hedge is optimal in the sense of minimum variance portfolio. We consider a model that allows for the hedges to be cointegrated with the hedged asset and among themselves. We find that the minimum variance hedge for assets driven by the CVAR, depends strongly on the portfolio holding period. The hedge is defined as a function of correlation and cointegration parameters. For short holding periods the correlation impact is predominant. For long horizons, the hedge ratio should overweight the cointegration parameters rather then short-run correlation information. In the infinite horizon, the hedge ratios shall be equal to the cointegrating vector. The hedge ratios for any intermediate portfolio holding period should be based on the weighted average of correlation and cointegration parameters. The results are general and can be applied for any portfolio of assets that can be modeled by the CVAR of any rank and order.

Keywords: hedging; cointegration; minimum variance portfolio. (search for similar items in EconPapers)
JEL-codes: C22 C58 G11 (search for similar items in EconPapers)
Pages: 12 pages
Date: 2014-09-18
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Citations: View citations in EconPapers (1)

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http://www.econ.ku.dk/english/research/publications/wp/dp_2014/1422.pdf (application/pdf)

Related works:
Working Paper: Optimal hedging with the cointegrated vector autoregressive model (2014)
Working Paper: Optimal hedging with the cointegrated vector autoregressive model (2014)
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Persistent link: https://EconPapers.repec.org/RePEc:kud:kuiedp:1422

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