Abstract
This paper estimates the risk-minimizing futures hedge ratios for three types of stock index futures: S&P 500 index futures, major market index (MMI) futures and Toronto 35 index futures. Spot and futures prices are first analysed to adjust for non-stationarity and cointegration. Using a bivariate cointegration model with a generalized ARCH error structure, we estimate the optimal hedge ratio as a ratio of the conditional covariance between spot and futures to the conditional variance of futures. Both within-sample comparisons and out-of-sample comparisons reveal that the dynamic hedging strategy based on the bivariate GARCH estimation improves the hedging performance over the conventional constant hedging strategy
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