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Optimal Hedging with Higher Moments

Chris Brooks, A. Cerny () and J. Miffre ()
Additional contact information
A. Cerny: Cass Business School
J. Miffre: Cass Business School

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

Abstract: This study proposes a utility-based framework for the determination of optimal hedge ratios that can allow for the impact of higher moments on the hedging decision. The approach is applied to a set of 20 commodities that are hedged with futures contracts. We find that in sample, the performance of hedges constructed allowing for non-zero higher moments is only very slightly better than the performance of the much simpler OLS hedge ratio. When implemented out of sample, utility-based hedge ratios are usually less stable over time, and can make investors worse off for some assets compared to hedging using the traditional methods. We conclude, in common with a growing body of very recent literature, by suggesting that higher moments matter in theory but not in practice.

Keywords: Utility-based hedging; OLS; Non-normality; risk; commodity futures; skewness; kurtosis (search for similar items in EconPapers)
JEL-codes: C53 G13 (search for similar items in EconPapers)
Pages: 33 pages
Date: 2006-11
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Related works:
Journal Article: Optimal hedging with higher moments (2012)
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