Minimum Variance Hedging and Stock Index Market Efficiency

Carol Alexander and Andreza Barbosa ()
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Andreza Barbosa: ICMA Centre, University of Reading

ICMA Centre Discussion Papers in Finance from Henley Business School, University of Reading

Abstract: This empirical study examines the impact of both advanced electronic trading platforms and index exchange traded funds (ETFs) on the minimum variance hedging of stock indices with futures. Our findings show that minimum variance hedging may provide an out-of-sample hedging performance that is superior to that of the one-one futures hedge, but only in markets without active trading of ETFs and advanced development of electronic communications networks. However there is no evidence to suggest that complex econometric models that include, for instance, time varying conditional covariances and error correction can improve on the simple ordinary least squares hedge ratio. Furthermore, in markets with actively traded index ETFs and where electronic trading has become established, no significant efficiency gains are apparent from any minimum variance hedge.

Keywords: Minimum variance; futures hedging; stock indices; exchange traded funds; electronic trading; conditional effectivementss mearure (search for similar items in EconPapers)
JEL-codes: C32 G10 G15 (search for similar items in EconPapers)
Pages: 23 Pages
Date: 2006-07, Revised 2006-09
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Published in Journal of Portfolio Management 2007, 33:2, 46 - 59

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