Hedging and nonlinear risk exposure

Authors

Kong Wing, Clement CHOWFollow
Udo BROLLFollow
Kit Pong WONGFollow

Document Type

Paper Series

Publication Date

6-2000

No.

037-990

Abstract

This paper documents some empirical evidence of nonlinear spot-futures exchange rates relationships and develops an expected utility model of an exporting firm to examines the associated economic implications. The model shows that the firm should export more (less) and adopt an over (under) hedge in an unbiased currency futures market if the spot-futures exchange rates relationship is convex (concave) rather than linear. When fairly priced currency options on futures are available, the firm should use them in conjunction with the currency futures so as to achieve better hedging against its nonlinear exchange rate risk exposure. This provides a rationale for the hedging role of options when the underlying uncertainty is nonlinear in nature.

Comments

HKIBS Working Paper Series 037-990

Recommended Citation

Chow, K. W. C., Broll, U., & Wong, K. P. (2000). Hedging and nonlinear risk exposure (HKIBS Working Paper Series 037-990). Retrieved from Lingnan University website: http://commons.ln.edu.hk/hkibswp/30