Title: Hedging with a generalised basis risk: empirical results

Authors: Moawia Alghalith; Ricardo Lalloo; Martin Franklin; Christos Floros

Addresses: Economics Department, UWI, St. Augustine, Trinidad. ' Economics Department, UWI, St. Augustine, Trinidad. ' Economics Department, UWI, St. Augustine, Trinidad. ' Department of Economics, University of Portsmouth, Richmond Building, Portland Street, Portsmouth, PO1 3DE, UK; Department of Finance and Insurance, TEI of Crete, Crete, 72100, Greece

Abstract: Previous research assumes that 1) the futures price is a linear function of the market (spot) price and basis risk; 2) the spot price and basis risk are statistically independent. Using a general form of basis risk, we provide empirical comparative statics results. Moreover, we relax the statistical independence assumption. Our monthly data series covers the period March 2000 to 2010, and includes the Henry Hub spot price, futures price and the quantity of natural gas and the hedged quantity. The results show that 1) an increase in the price riskiness increases the optimal hedge; 2) a higher basis risk implies a riskier hedging; 3) a higher correlation between the prices implies a riskier hedging.

Keywords: gas futures; spot prices; basis risk; hedging risk; natural gas; price risk.

DOI: 10.1504/IJFMD.2011.042604

International Journal of Financial Markets and Derivatives, 2011 Vol.2 No.3, pp.244 - 248

Published online: 18 Sep 2011 *

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