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Article: The impact of delivery risk on optimal production and futures hedging

TitleThe impact of delivery risk on optimal production and futures hedging
Authors
KeywordsDelivery risk
Futures
Production
Risk management
Issue Date2003
PublisherSpringer New York LLC. The Journal's web site is located at http://springerlink.metapress.com/openurl.asp?genre=journal&issn=1572-3097
Citation
European Finance Review, 2003, v. 7 n. 3, p. 459-477 How to Cite?
AbstractMultiple delivery specifications exist on nearly all commodity futures contracts. Sellers are typically allowed to choose among several grades of the underlying commodity. On the delivery day, the futures price converges to the spot price of the cheapest-to-deliver grade rather than to that of the par-delivery grade of the commodity, thereby imposing an additional delivery risk on hedgers. This paper derives the optimal production and futures hedging strategy for a risk-averse competitive firm facing delivery risk. We show that the option value of the multiple delivery specification induces the firm to produce more with than without the delivery risk if the firm gauges this value higher than the market. We further show that if the delivery risk is additively related to the commodity price risk, the firm optimally under-hedges its risk exposure. On the other hand, if the delivery risk is multiplicatively related to the commodity price risk, the firm may optimally choose an under- or over-hedge which we illustrate using a numerical example.
Persistent Identifierhttp://hdl.handle.net/10722/85676
ISSN
References

 

DC FieldValueLanguage
dc.contributor.authorAdamMüller, AFAen_HK
dc.contributor.authorWong, KPen_HK
dc.date.accessioned2010-09-06T09:07:54Z-
dc.date.available2010-09-06T09:07:54Z-
dc.date.issued2003en_HK
dc.identifier.citationEuropean Finance Review, 2003, v. 7 n. 3, p. 459-477en_HK
dc.identifier.issn1382-6662en_HK
dc.identifier.urihttp://hdl.handle.net/10722/85676-
dc.description.abstractMultiple delivery specifications exist on nearly all commodity futures contracts. Sellers are typically allowed to choose among several grades of the underlying commodity. On the delivery day, the futures price converges to the spot price of the cheapest-to-deliver grade rather than to that of the par-delivery grade of the commodity, thereby imposing an additional delivery risk on hedgers. This paper derives the optimal production and futures hedging strategy for a risk-averse competitive firm facing delivery risk. We show that the option value of the multiple delivery specification induces the firm to produce more with than without the delivery risk if the firm gauges this value higher than the market. We further show that if the delivery risk is additively related to the commodity price risk, the firm optimally under-hedges its risk exposure. On the other hand, if the delivery risk is multiplicatively related to the commodity price risk, the firm may optimally choose an under- or over-hedge which we illustrate using a numerical example.en_HK
dc.languageengen_HK
dc.publisherSpringer New York LLC. The Journal's web site is located at http://springerlink.metapress.com/openurl.asp?genre=journal&issn=1572-3097en_HK
dc.relation.ispartofEuropean Finance Reviewen_HK
dc.subjectDelivery risken_HK
dc.subjectFuturesen_HK
dc.subjectProductionen_HK
dc.subjectRisk managementen_HK
dc.titleThe impact of delivery risk on optimal production and futures hedgingen_HK
dc.typeArticleen_HK
dc.identifier.openurlhttp://library.hku.hk:4550/resserv?sid=HKU:IR&issn=1382-6662&volume=7&spage=459&epage=477&date=2004&atitle=The+Impact+of+Delivery+Risk+on+Optimal+Production+and+Futures+Hedgingen_HK
dc.identifier.emailWong, KP: kpwongc@hkucc.hku.hken_HK
dc.identifier.authorityWong, KP=rp01112en_HK
dc.description.naturelink_to_subscribed_fulltext-
dc.identifier.scopuseid_2-s2.0-4043070535en_HK
dc.identifier.hkuros92193en_HK
dc.relation.referenceshttp://www.scopus.com/mlt/select.url?eid=2-s2.0-4043070535&selection=ref&src=s&origin=recordpageen_HK
dc.identifier.volume7en_HK
dc.identifier.issue3en_HK
dc.identifier.spage459en_HK
dc.identifier.epage477en_HK
dc.publisher.placeUnited Statesen_HK
dc.identifier.scopusauthoridAdamMüller, AFA=6602884607en_HK
dc.identifier.scopusauthoridWong, KP=7404759417en_HK

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