Abstract
In this study, we introduce a new quantile hedging method by extending the conventional quantile hedging with two-state Markov regime switching models. Using daily data from 16 futures markets, we discover that the conventional quantile hedge ratio displays an inverted U shape to various extents for different futures. When looking into high- and low-volatility states, quantile hedge ratios show different results compared with conventional models. While the quantile hedge ratio in low-volatility state is relatively flat, in high-volatility state, the quantile hedge varies with the spot return distribution and displays a U-type relationship. Moreover, the U shape is more prominent for agricultural futures and less prominent for others. Also, by comparing hedging effectiveness, the quantile hedge strategy is found to be more effective than the no-hedge strategy and the hedging strategy derived from error correction models.
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