Hedging Effectiveness Research Articles

Assessing the asymmetric volatility linkages of energy and agricultural commodity futures during low and high volatility regimes

AbstractThis study investigated the volatility linkages between energy and agricultural futures, including possible causes for these comovements, such as external macroeconomic and financial shocks during low and high volatility regimes. A combination of Markov‐switching regressions and quadrivariate VAR–DCC–GARCH and VAR–BEKK–GARCH modeling revealed that external shocks have an asymmetric effect on the relationship of these assets with higher cross‐correlations reported during high volatility regimes. This comovement effect outweighs the substitution effect between energy and agricultural products. Furthermore, the quadrivariate VAR–BEKK–GARCH model provides strong evidence of a bidirectional price volatility spillover between the agricultural and energy markets during periods of high volatility. Overall, the results suggest that energy futures can be effectively used for hedging in a portfolio comprising agricultural futures (and vice versa), while a combination of macroeconomic and financial index futures can serve as an effective hedging tool in investment portfolios comprising both energy and agricultural commodities.

Crypto market relationships with bric countries' uncertainty – A wavelet-based approach

This study focuses on exploring the relationships between different categories of crypto assets and measures of uncertainty in BRIC countries, specifically examining geopolitical risk (GPR) and economic policy uncertainty (EPU). Our findings indicate that the co-movement of the EPU and GPR indexes with different categories of crypto assets is influenced by factors such as the time period, investment horizons, and the type of event, and that it differs across crypto assets. An overall pattern is observed, suggesting that the crypto market does not act as a hedge against economic policy uncertainties (EPU) but demonstrates a hedging effect against geopolitical risk (GPR). This distinction in hedging effectiveness is influenced by the nature of events (COVID-19 and the Russian invasion of Ukraine), since investors' expectations and perception of risk differ during these events. Furthermore, our analysis shows that stablecoins and memecoins do not exhibit consistent results in relation to GPR and EPU, suggesting that they may not serve as reliable hedging instruments against geopolitical risks or economic policy uncertainties in the BRIC countries. Our findings carry important implications for investors, portfolio managers, policy makers, and researchers, offering insights into portfolio risk management, regulatory frameworks, and the behavior of the cryptocurrency market in the face of uncertainties.

Longevity hedge effectiveness using socioeconomic indices

This paper evaluates socioeconomic basis risk in longevity hedging. Using data for a full population stratified into socioeconomic groups, we explore the benefits and costs of two alternative hedging strategies, with and without basis risk, in the capital market. The benefit of the longevity hedge is represented by the risk reduction in the variability of a life annuity, whereas the cost is the notional amount of hedging contracts times the actuarial risk premium. We find that hedging is more cost-effective for the annuity provider when basis risk is eliminated. Moreover, it allows for a higher degree of hedge effectiveness at a cost that is equivalent to a hedge where basis risk is present. Finally, the yearly expenses related to hedging longevity risk require, at most, an extra added rate of return of no more than 0.16%.

Safe haven opportunities for cryptocurrencies in geopolitically risky environments

ABSTRACTFinding suitable safe haven opportunities to protect emerging investments, such as cryptocurrencies, from external factors, such as Geopolitical risk, is a major concern for investors. Recognizing safe havens for these assets can help investors and traders manage risk, stabilize their portfolios, diversify their investments, and preserve capital against Geopolitical risk. To find the safe havens for cryptocurrencies regarding Geopolitical risk, this study proposes an approach to identifying the most suitable safe havens for cryptocurrencies highly affected by Geopolitical risk. First, the study identifies the cryptocurrencies that are more influenced by Geopolitical risk than others; by this, the assets that require hedging are discovered. Then, a new method, quantile-on-quantile regression, is employed to test the hedging ability of multiple assets from different markets. Once the outcomes of the quantile-on-quantile regression are cleared, the hedge effectiveness index by dynamic conditional correlation GARCH is calculated to validate the results. Both methods yield similar results, suggesting that the Forex market and stock indexes are the most suitable options as safe havens for cryptocurrencies. The study also finds that assets from the energy sector of the commodity market, such as Crude Oil and Natural Gas, are the weakest safe haven options.

A Statistical Study of Price of Gold

Gold has long been considered one of the most precious metals, and its value has been used as the standard for many currencies (known as the gold standard) in history. Ancient India accumulated gold through trade of Indian spices with Roman Empire and by gold mining operations, predominantly in the regions of Hatti and Kolar of modern-day Karnataka. 1. There has been drastic increase in the prices of gold since 2001. Gold prices have been increased by 90% during last 10 years. 2. The Bank of India has one of the largest stores of gold in the world. India is the second largest consumer of gold in the world and is one of the most reliable drivers of global demand. Gold accounts for nearly 5.5% of the total foreign reserve holdings of India. India’s festival and wedding season, which runs from October to December, has historically been a huge boon to gold trade. 3. Gold has always been used as a monetary standard. Gold has a profound impact on the value of world currencies. Even though the gold standard has been abandoned, gold as a commodity can act as a substitute for fiat currencies and be used as an effective hedge against inflation. There is no doubt that gold will continue to play an integral role in the foreign exchange markets. Gold consumption observed a sharp acceleration during the 1990s amidst liberalization of gold import policy, strong economic growth and favourable movements in gold prices. Gold is now being used as an alternative for dollar since its collapse. Monetary and Non- Monetary demand for gold is steeply rising. It has been demanded by individual buyer, institutional buyer as well as he Countries too.

Hedging inflation expectations in the cryptocurrency futures market

This paper finds the first evidence of time variation in the relationship between inflation expectations and the price of cryptocurrency futures. Daily data on the futures markets of Bitcoin – starting in December 2017 – and Ethereum – available since February 2021 – reveal responses to inflation expectations that are consistently positive across both measures in a full sample encompassing 2022. These results hold for a sample that precedes the Luna crash in May 13, 2022. However, the response turns negative in the period between the failures of the Luna and FTX crypto exchanges. We find cryptocurrency futures provide an effective hedge against inflation expectations and may provide a hedge against idiosyncratic market risk if the ensuing uncertainty is embraced by traders leading them to search-for-yield behavior. Risk that is more systemic – and not properly digested by financial markets – may lead futures contract holders to exit their positions ahead of expiration, leading to a bid down of futures prices and an erosion of their hedging ability. This may have contributed to the turbulence in cryptocurrencies experienced during the latter part of 2022.

Hedging With Futures

This research explores the utilization of wavelet transform decomposition as an effective tool for hedging in the Indian stock market, particularly focusing on hedging with index futures contracts. Utilizing daily data obtained from the National Stock Exchange (NSE) of India spanning from 2010 to 2022, the study investigates the lead-lag relationships, correlations, and hedge ratios across different time scales through the wavelet transform method. The findings indicate a clear relationship between the Nifty 50, Nifty Bank, and Index futures in both short and longer time frames. However, in intermediate time scales, the Nifty Bank contract exhibits a leading position in the market. The correlation analysis underscores that time plays a crucial role in determining the variations, resulting in a wide range of correlations. The effectiveness of hedging, measured by the hedge ratio, displays an increasing trend across different time zones.

Derivative disclosures and managerial opportunism

AbstractDerivatives are increasingly used by managers not only to hedge risks but also to pursue nonhedging activities for fulfilling opportunistic incentives. The Statement of Financial Accounting Standards No. 161 (SFAS 161) requires firms to disclose their objectives and strategies for using derivatives. Using the adoption of this standard, we examine whether and how derivative disclosures influence managerial opportunistic behavior. We employ insider trades and stock price crash risk to capture managerial opportunism. Applying a difference‐in‐differences research design with hand‐collected data on derivative designations, we find that, after the implementation of SFAS 161, derivative users that comply with SFAS 161 experience a significantly greater decrease in both insider trades and stock price crash risk, compared with a matched control sample of nonderivative‐users. We further provide evidence to suggest that SFAS 161 curbs managerial opportunism via reducing information asymmetry between corporate insiders and outside investors and enhancing the effectiveness of derivative hedging.

Green bond in China: An effective hedge against global supply chain pressure?

Investigating green bonds' hedging ability against global supply chain disruptions is crucial to maximising investment returns. This analysis innnovatively uses the sub-sample technique to recognise the time-dependant transmission mechanism between green bonds in China (CGB) and global supply chain pressure (GSCP), which further resolves if China's green bond is an effective hedge against global supply chain pressure. The conclusion ascertains that positive and negative impacts exist from GSCP to CGB, whereas the favourable one suggests that China's green bond is an effective hedge under high global supply chain stresses. However, an adverse effect indicates that low GSCP might accompany the development of a green bond market due to climate and environmental policies. In turn, GSCP is positively and negatively affected by CGB, and the favourable one reveals that the green bond market in China could reflect the condition of the global supply chain, but the adverse one cannot draw a similar conclusion. Under the background of the complex international economic situation and China's proposed carbon peaking and carbon neutrality goals, this discussion would provide significant suggestions for the public, enterprise and country.

What has the strongest connectedness with clean energy? Technology, substitutes, or raw materials

This paper examines the connectedness of clean energy with technology, substitutes (crude oil and natural gas), and raw materials (silver, platinum, copper, corn, and soybean). This is conducted from a systemic perspective, using the quantile time–frequency connectedness approach. The results reveal that clean energy and technology stocks demonstrate the strongest pairwise connectedness across all quantile levels in the short, medium, and long terms. Meanwhile, fossil energy commodities (as substitutes) and metal and agricultural commodities (as raw materials) exhibit relatively intensive connectedness, with clean energy stocks only at the lower and upper quantiles in the short term. Furthermore, connectedness among the markets under examination is significantly enhanced during periods of financial turmoil, as was the case during the European debt crisis and the COVID-19 pandemic. Finally, the minimum connectedness portfolio analysis indicates that natural gas futures offer the highest hedge effectiveness, and technology stocks offer the lowest hedge effectiveness across frequencies and quantiles. This finding suggests that optimal portfolios will have a larger proportion of natural gas futures. These findings have significant implications for both investors and policymakers.

The influence of the spillover between futures and spot markets on hedging policy: evidence from Chinese stock markets

This paper examines the impact of risk spillovers between Chinese stock and futures markets on stock hedging policies. This paper calculates the correlation between the overall risk spillover and the hedging ratio, effectiveness, and hedging cost based on the hedging portfolio of stock futures of the CSI 300 index, the SSE 50 index, and the CSI 500 index. The results show that, on the one hand, the CSI 300 and CSI 500 futures markets are the propagators of risk spillovers, which shows that the price fluctuations of these two types of futures markets have a stronger impact on the stock spot price. The CSI 50 Futures market is the recipient of risk, and the CSI 50 Futures price is more vulnerable to the impact of the stock market. The results of the three types of samples show that when the stock market experiences extreme decline, the Risk Spillover Effect in the futures and spot markets will be significantly reduced, which indicates that the price of stocks and their derivatives is more deviated from the equilibrium relationship of pricing, and at this time, the function of derivatives in risk control is unreliable. On the other hand, the total spillover index of stock futures and spot markets has a positive correlation with hedging rate, hedging effectiveness and hedging cost. When the total spillover real number increases, it will get a more effective hedging effect. In addition, the hedging index is more sensitive to the overall spillover of high asset liquidity hedging portfolios. These conclusions provide a basis for adjusting asset positions according to the changes of Risk Spillover between the futures market and the spot market to obtain higher hedging effectiveness. The contribution of this paper is to reveal the possibility of finding the risk factors of hedging from the perspective of Risk Spillover in a very simple way, so it has reliable practicability in practice.

Foreign exchange hedging using regime‐switching models: The case of pound sterling

AbstractWe develop a four‐state regime‐switching model for optimal foreign exchange (FX) hedging using forward contracts. The states correspond to four distinct market conditions, each defined by the direction and magnitude of deviation of the prevailing FX spot rate from its long‐term trends. The model's performance is evaluated for five currencies against the pound sterling for various horizons. Our examination compares the hedging outcomes of the proposed model to those of other commonly employed hedging methods. The empirical results suggest that our model demonstrates the highest level of risk reduction for the US dollar, euro, Japanese yen and Turkish lira and the second‐best performance for the Indian rupee. The risk reduction is significantly higher for lira compared with the other approaches, implying that the proposed model might be able to provide much more effective hedging for highly volatile currencies. The improved performance of the model can be attributed to the adjustability of the estimation horizon for the optimal hedge ratio based on the prevailing market conditions. This, in turn, allows it to better capture fat‐tail properties that are frequently observed in FX returns. Our findings suggest that FX investors tend to use short‐term memory during low market conditions (relative to trend) and long‐term memory in high ones. The results would be also useful to build a better understanding of how investor behaviour depends on market conditions and mitigate the adverse behavioural implications of short‐term memory, such as panic.

Option pricing: Examples and open problems

Abstract There is no method of predicting the price of an option other than hedging strategies such as the binomial hedging strategy, the Black–Scholes hedging strategy and others. We will study these two basic hedging strategies in terms of their feasibility, and we will see that the Black–Scholes hedging strategy is not feasible because this strategy demands instantaneously rebuilding the replicating portfolio. Consequently, the real world prices of the options are not relevant at all with the Black–Scholes hedging strategy! We will suitably redefine the binomial hedging strategy so that it will be practically useful and present other feasible and generally more effective hedging strategies with some of them practically useful for options with no tradable underlying assets. Finally, we will mention some open questions related to the above.

Do commodity factors work as inflation hedges and safe havens?

This study investigates whether commodity futures factor portfolios work as hedges and safe havens against inflation shocks. We observe that momentum, basis momentum, and a combination of factor portfolios act as strong hedges against core inflation shocks, suggesting that holding the factor portfolios generates not only higher Sharpe ratios but also strong hedge effects against inflation. Moreover, the momentum, basis momentum, and value portfolios have weak safe haven properties against inflation shocks. In addition, our empirical results suggest that hedge effects for commodity future portfolios are stronger during the pre-financialization period.

Cryptocurrencies against stock market risk: New insights into hedging effectiveness

This study examines the role of cryptocurrencies as a hedging and safe-haven instrument against stock market risk. Employing five of the largest cryptocurrencies by market capitalization: BTC, ETH, BNB, ADA, and XRP, from 2017 to 2022 in a variance-optimal hedging framework we investigate and compare the hedging effectiveness of cryptocurrencies for the developed G7 and emerging BRICS stock markets. Based on EVT we introduced a new approach to the assessment of hedging effectiveness. We found that the probability of at least 10-percent hedging effectiveness of Bitcoin is approximately equal to zero. The conditional probability that Bitcoin can reduce at least 10% of volatility given that index returns fall below the 1st percentile is higher and ranges from 2% to 28.4% depending on the stock market. The probabilities estimated for other cryptocurrencies are lower. We provide new and valuable knowledge for investors, who consider cryptocurrencies as a shelter for their investment portfolios.

Gold, crude oil, and cryptocurrencies versus stock index futures: An analysis of hedging strategies in global stock markets

The study aims to verify the hedging ability of gold, cryptocurrencies, and crude oil to serve as hedging instruments against stock market risk. We compare the hedging effectiveness of these popular assets with stock index futures contracts. As a hedging strategy, we understand a pair-wise portfolio consisting of a long position in stocks and a short position in a hedging instrument put together to minimize the portfolio variance. We conclude that hedging strategies using stock index futures contracts provide an efficient hedging mechanism for investors aiming to protect their stock portfolios. Unlike stock index futures contracts, the effectiveness of hedging with gold, crude oil, and cryptocurrencies is low in most sub-periods. Hence, from a risk minimization perspective, investors have no incentive to implement gold, cryptocurrencies, or crude oil in hedging strategy against stock market risk.

Examining the hedge performance of US dollar, VIX, and gold during the coronavirus pandemic: Is US dollar a better hedge asset?

This study utilizes the hedging potential of the U.S. Dollar Index (USDX) during the COVID-19 period, specifically comparing its positive effects on optimal portfolio weights and hedging ratios with those of traditional hedging assets, such as the VIX and gold. The scalar BEKK GARCH model is employed to forecast volatility and calculate hedging indicators. The results show that USDX exhibits strong hedging abilities against S&P 500 index volatility. These findings highlight the advantageous role of the USDX as a hedging instrument, particularly during periods of heightened market uncertainty, such as during the COVID-19 crisis. Despite the increased market volatility during the COVID-19 pandemic, the value of the optimal portfolio weights is stable and the volatility of the weights is significantly reduced, demonstrating the strength of the USDX's low risk and volatility in hedging against market fluctuations. Moreover, the increase in the hedge ratio indicates that more capital is allocated to hedging, reflecting the increased correlation between the USDX and S&P 500 index. These results emphasize the beneficial role of the USDX as a hedging instrument during times of elevated market uncertainty, such as during the COVID-19 crisis. Ultimately, USDX can provide valuable insights for market participants seeking effective hedging strategies.

Dynamic connectedness, spillover, and optimal hedging strategy among FinTech, Sukuk, and Islamic equity markets

The paper investigates the dynamic connectedness, spillover, and optimal hedging strategy of the FinTech, Sukuk, and Islamic equity markets. The CAViaR approach, TVP-VAR Frequency connectedness, and network connectedness approaches are used. We also apply the MVP, MCP, and MCoP approaches to construct portfolios based on the Fintech, Sukuk, and Islamic equity indices. We then compute hedge effectiveness, portfolio performance, and Sharpe ratios. We find that FinTech markets are predominantly intra-connected in the short and medium term; they are significantly interconnected in the long term. In terms of frequency decomposition, volatility transmission among the variables dominates in the short term in comparison with other examined durations. The Russian-Ukrainian War and COVID-19 pandemic both saw a considerable increase in the intensity of volatility transmission. There is higher information transmission from Islamic equity indices and less effective information transmission from Sukuk and Fintech indices. Our findings suggest that the dynamic portfolio weights for MCP and MCoP seem to be similar, but clearly differs from MVP approach. When delving into the existence of Fintech indices as a part of an international fixed-income Islamic investor's portfolio, our paper's findings – being robust to the portfolio construction method – establish that Fintech indices do have a notable role in fixed-income Islamic investment portfolios. Finally, we conclude by highlighting the fact that the benefits of diversifying a portfolio with FinTech and Islamic assets fluctuate with time and on a regular basis.

Non-invasive brain stimulation on clinical symptoms in multiple sclerosis patients: A systematic review and meta-analysis.

Non-invasive brain stimulation (NIBS) has demonstrated mixed effects on the clinical symptoms of multiple sclerosis. This systematic review and meta-analysis aimed to evaluate the effects of NIBS techniques on the most common symptoms of MS. A literature search was performed until October 2022 which included randomized controlled trials and quasi-experimental studies that used sham-controlled NIBS in patients with MS. We calculated the Hedge's effect sizes of each domain of interest and their 95% confidence intervals (95% CIs) and performed random effects meta-analyses. A total of 49 studies were included in the systematic review (944 participants). Forty-four eligible studies were included for quantitative analysis, of which 33 applied transcranial direct current stimulation (tDCS), 9 transcranial magnetic stimulation (TMS), and 2 transcranial random noise stimulation (tRNS). We found a significant decrease in fatigue (ES: -0.86, 95% CI: -1.22 to-0.51, p<0.0001), pain (ES:-1.91, 95% CI,-3.64 to-0.19, p=0.03) and psychiatric symptoms (ES:-1.44, 95% CI-2.56 to-0.32, p=0.01) in favor of tDCS compared with the sham. On the other hand, there was no strong evidence showing tDCS effectiveness on motor performance and cognition (ES:-0.03, 95% CI-0.35 to 0.28, p=0.83 and ES: 0.71, 95% CI,-0.09 to 1.52, p=0.08, respectively). Regarding TMS, we found a significant decrease in fatigue (ES:-0.45, 95% CI:-0.84 to -0.07, p=0.02) and spasticity levels (ES:-1.11, 95% CI:-1.48 to-0.75, p<0.00001) compared to the sham. However, there was no strong evidence of the effectiveness of TMS on motor performance (ES:-0.39, 95% CI-0.95 to 0.16, p=0.16). Finally, there was no significant evidence showing the effectiveness of tRNS on fatigue levels (ES:-0.28, 95% CI:-1.02 to 0.47, p=0.46) and cognitive improvement (ES:-0.04, 95% CI:-0.6, 0.52, p=0.88) compared with the sham. Overall, most studies have investigated the effects of tDCS on MS symptoms, particularly fatigue. The symptom that most benefited from NIBS was fatigue, while the least to benefit was motor performance. In addition, we found that disability score was associated with fatigue improvement. Thus, these findings support the idea that NIBS could have some promising effects on specific MS symptoms. It is also important to underscore that studies are very heterogeneous regarding the parameters of stimulation, and this may also have influenced the effects on some specific behavioral domains.

Asymmetry in Hedges, Safe Havens, Flights and Contagion: Unconditional Quantile Regression Approach

We examine the hedging/safe-haven ability of gold, the US dollar, bonds, crude oil, and Bitcoin against stocks using the unconditional quantile regression (UQR). We reveal that hedging (safe-haven) effect generally decreases (increases) with the quantiles of asset returns and find an asymmetric flight from stocks to the US dollar as well as asymmetric stock-gold, stock-bond, and stock-oil contagion. Finally, we find a connection between the asymmetric safe haven and asymmetric cross-asset flights/contagion. Therefore, investors seeking hedging and safe-haven assets and investigating flights or contagion should consider the feature of extremes of assets returns. JEL: C13; G11; G14