Details
| Original language | English |
|---|---|
| Pages (from-to) | 698-707 |
| Number of pages | 10 |
| Journal | Energy Economics |
| Volume | 36 |
| Publication status | Published - 1 Mar 2013 |
| Externally published | Yes |
Abstract
We study the empirical performance of the classical minimum-variance hedging strategy, comparing several econometric models for estimating hedge ratios of crude oil, gasoline and heating oil crack spreads. Given the great variability and large jumps in both spot and futures prices, considerable care is required when processing the relevant data and accounting for the costs of maintaining and re-balancing the hedge position. We find that the variance reduction produced by all models is statistically and economically indistinguishable from the one-for-one "naïve" hedge. However, minimum-variance hedging models, especially those based on GARCH, generate much greater margin and transaction costs than the naïve hedge. Therefore we encourage hedgers to use a naïve hedging strategy on the crack spread bundles now offered by the exchange; this strategy is the cheapest and easiest to implement. Our conclusion contradicts the majority of the existing literature, which favours the implementation of GARCH-based hedging strategies.
Keywords
- Crack spread, GARCH, Hedging, Minimum-variance hedge
ASJC Scopus subject areas
- Economics, Econometrics and Finance(all)
- Economics and Econometrics
- Energy(all)
- General Energy
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In: Energy Economics, Vol. 36, 01.03.2013, p. 698-707.
Research output: Contribution to journal › Article › Research › peer review
}
TY - JOUR
T1 - The (de)merits of minimum-variance hedging
T2 - Application to the crack spread
AU - Alexander, Carol
AU - Prokopczuk, Marcel
AU - Sumawong, Anannit
PY - 2013/3/1
Y1 - 2013/3/1
N2 - We study the empirical performance of the classical minimum-variance hedging strategy, comparing several econometric models for estimating hedge ratios of crude oil, gasoline and heating oil crack spreads. Given the great variability and large jumps in both spot and futures prices, considerable care is required when processing the relevant data and accounting for the costs of maintaining and re-balancing the hedge position. We find that the variance reduction produced by all models is statistically and economically indistinguishable from the one-for-one "naïve" hedge. However, minimum-variance hedging models, especially those based on GARCH, generate much greater margin and transaction costs than the naïve hedge. Therefore we encourage hedgers to use a naïve hedging strategy on the crack spread bundles now offered by the exchange; this strategy is the cheapest and easiest to implement. Our conclusion contradicts the majority of the existing literature, which favours the implementation of GARCH-based hedging strategies.
AB - We study the empirical performance of the classical minimum-variance hedging strategy, comparing several econometric models for estimating hedge ratios of crude oil, gasoline and heating oil crack spreads. Given the great variability and large jumps in both spot and futures prices, considerable care is required when processing the relevant data and accounting for the costs of maintaining and re-balancing the hedge position. We find that the variance reduction produced by all models is statistically and economically indistinguishable from the one-for-one "naïve" hedge. However, minimum-variance hedging models, especially those based on GARCH, generate much greater margin and transaction costs than the naïve hedge. Therefore we encourage hedgers to use a naïve hedging strategy on the crack spread bundles now offered by the exchange; this strategy is the cheapest and easiest to implement. Our conclusion contradicts the majority of the existing literature, which favours the implementation of GARCH-based hedging strategies.
KW - Crack spread
KW - GARCH
KW - Hedging
KW - Minimum-variance hedge
UR - http://www.scopus.com/inward/record.url?scp=84874343201&partnerID=8YFLogxK
U2 - 10.1016/j.eneco.2012.11.016
DO - 10.1016/j.eneco.2012.11.016
M3 - Article
AN - SCOPUS:84874343201
VL - 36
SP - 698
EP - 707
JO - Energy Economics
JF - Energy Economics
SN - 0140-9883
ER -