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Solution Library
Calculation Of Minimum Variance Hedge Ratio
Question
The following table gives data on daily changes in the spot price and futures price for a certain commodity:
∆S +5 +8 -2 +3 -5 +0 -2 +7 +3 +7
∆ F +2 +4 -1 +0 +1 -1 -7 +2 +5 +8
(a) Use the data to calculate a minimum variance hedge ratio for an investor who holds the commodity and plans to sell it soon. Ignore tailing adjustments to account for daily settlement.
(b) Evaluate how well a hedging strategy based on the minimum variance hedge ratio would have worked for each day of the 10-day period covered by the data, i.e. compute the value of your hedge for each of the ten days by adding losses/ gains from both the spot and futures positions.
(c) What is the cumulative gain/ loss over the 10 days?
(d) What is the daily standard deviation in your gain/ losses?
(e) What is the daily standard deviation without your hedge?
(f) What is the daily standard deviation if you use a (not optimal) hedge of 1 short position in the futures?
Summary
The question belongs to Finance and it discusses about calculation of minimum variance hedge ratio for 10 days by adding losses/gains from both spot and futures positions.
Total Word Count 109
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