Ch03金融衍生工具8thEdition

Chapter 3
Hedging Strategies Using

Futures
Options, Futures, and Other Derivatives, 8th Edition,

Copyright © John C. Hull 2012 1
Long Hedges
A long futures hedge is a hedge that involves taking a long position in a
futures contract.
It is appropriate when you know you will purchase an asset in the future
and want to lock in the price
Example:
On January 15, a copper fabricator knows it will require 100,000 pounds of
copper on May 15. The spot price on Jan. 15 is 340 cents per pound, and the
futures price for May delivery is 320 cents per pound.
Long hedge: taking a long position in four futures contracts .(Each contract is for
the delivery of 25,000 pounds of copper)
Suppose that the spot price of copper on May 15 is 325 or 305 cents per
pound, what are the outcomes?

Short Hedges
A short futures hedge is a hedge that involves a short
position in futures contracts.
It is appropriate when you know you will sell an asset in the
future and want to lock in the price
Example:
Today (May 15) an oil producer entered into a contract to sell 1 million
barrels of crude oil in three months at the market price on Aug.15.
short hedge: short 1000 crude oil futures contracts (Each contract is
for the delivery of 1000 barrels), the futures price for August delivery is
$79 per barrel.
suppose spot price on Aug. 15 is 75 or 85. what are the outcomes?

Arguments in Favor of Hedging
Companies should focus on the main
business they are in and take steps to
minimize risks arising from interest rates,
exchange rates, and other market variables

Arguments against Hedging
Shareholders are usually well diversified and
can make their own hedging decisions
It may increase risk to hedge when
competitors do not
Hedging may lead to a worse outcome
Explaining a situation where there is a loss on
the hedge and a gain on the underlying can
be difficult
Basis Risk
Basis is usually defined as the spot
price minus the futures price
Basis risk arises because of the
uncertainty about the basis when
the hedge is closed out

Long Hedge for Purchase of an Asset
Define
S1 : Spot price at time t1
F1 : Futures price at time t1
b1 = S1 −F1 : Basis at time t1
Price paid for the asset S2
Loss on Futures position F1 −F2
Net amount paid S2 + (F1 −F2) =F1 + b2

Short Hedge for Sale of an Asset
Define
Price realized for the asset S2
Gain on Futures F1 −F2
Net amount received S2 + (F1 −F2) =F1 + b2

Choice of Contract
One key factor affecting basis risk is the choice of
the futures contract to be used for hedging.
This choice has two components:
1. The choice of the asset underlying the futures
contract
2. The choice of the delivery month.
Choose a delivery month that is as close as
possible to, but later than, the end of the life of
the hedge.
Example 3.1
March 1. A US company expects to receive 50 million Japanese yen at
the end of July.
Yen futures contracts on the CME Group have delivery months of
March, June, September, and December.
The contract size is 12.5 million yen. The company should (shorts or
longs) (how many) (Jun./Sep./Dec.) yen futures contracts on March 1.
suppose that the futures price on March 1 in cents per yen is 0.7800
the spot and futures prices when the contract is closed out are 0.7200
and 0.7250, respectively.
What is the total amount received by the company?

Example 3.2
It is June 8, a company knows that it will need to purchase 20,000 barrels of
crude oil at some time in October or November.
Oil futures contracts are currently traded for delivery every month on the NYMEX
division of the CME Group and the contract size is 1,000 barrels.
The company should use the (Oct./Nov./Dec.) contract for hedging and takes a
(long or short) position in (how many) December contracts.
The futures price on June 8 is $68.00 per barrel.
The company closes out its futures contract on November 10. The spot price
and futures price on November 10 are $70.00 per barrel and $69.10 per barrel.
What is the total price paid by the company?

Cross hedging
When there is no futures contract on the asset being hedged,
choose the contract whose futures price is most highly
correlated with the asset price. This is known as cross
hedging.
Hedge ratio: the ratio of the size of the position taken in
futures contracts to the size of the exposure.
When the asset underlying the futures contract is the same as
the asset being hedged, it is natural to use a hedge ratio of 1.0.
When cross hedging is used, setting the hedge ratio equal to
1.0 is not always optimal. The hedger should choose a value for
the hedge ratio that minimizes the variance of the value of the
hedged position.
Optimal Hedge Ratio (page 57)
Proportion of the exposure that should optimally be
hedged is 
h*   S
where F
S is the standard deviation of S, the change in the spot
price during the hedging period,
F is the standard deviation of F, the change in the
futures price during the hedging period
 is the correlation coefficient between S and F.

Optimal Hedge Ratio

Optimal Number of Contracts
QA Size of position being hedged (units)
QF Size of one futures contract (units)
VA Value of position being hedged (=spot price times QA)
VF Value of one futures contract (=futures price times QF)
Tailing the hedge: a small adjustment made to allow for the impact of daily
settlement.
Optimal number of contracts if Optimal number of contracts after
no tailing adjustment tailing adjustment to allow for the
impact of daily settlement of futures
* *
* h QA * h VA
N  N 
QF VF
Example (Pages 59-60)
Airline will purchase 2 million gallons of jet fuel in
one month and hedges using heating oil futures
The size of one heating oil contract is 42,000
gallons
The spot price is 1.94 and the futures price is 1.99
(both dollars per gallon)
From historical data F =0.0313, S =0.0263, and =
0.928 * 0.0263
h  0.928   0.7777
0.0313
Example continued
so that
V A  1.94  2,000,000  3,880,000
V F  1.99  42,000  83,580
Optimal number of contracts assuming no daily
settlement  0.7777  2,000,000 42,000  37.03
Optimal number of contracts after tailing
 0.7777  3,880,000 83,580  36.10

Hedging Using Index Futures(Page 61)

CAPM
The capital asset pricing model (CAPM) is a model that can be used to
calculate the expected return from an asset during a period in terms of
the risk of the return.
The risk in the return from an asset is divided into two parts. Systematic
risk is risk related to the return from the market as a whole and cannot be
diversified away. Nonsystematic risk is risk that is unique to the asset
and can be diversified away by choosing a large portfolio of different
assets. CAPM argues that the return should depend only on systematic
risk.
The CAPM formula is
can be used as a basis for hedging a diversified portfolio

Examples
1. A portfolio worth $5,050,000 mirrors the S&P 500. The index futures
price is 1,010 and each futures contract is on $250 times the index. What is
the optimal number of contracts that should be shorted to hedge the
portfolio?
2. Suppose Value of Portfolio is $5.05 million ， Beta of portfolio is
1.5 ， S&P 500 index=1000 S&P 500 futures price is 1,010
Risk-free interest rate =4% per annum
Dividend yield on index =1% per annum
each futures contract is on $250 times the index
(1) What position in futures contracts on the S&P 500 is necessary
to hedge the portfolio?
(2) suppose 3 months later index =900, futures price=902, what is the
total value of the hedger’s position

Examples
the total value of the hedger’s position
=gain from the short futures position+ expected value of the portfolio
The gain from the short futures position = =810,000
• The loss on the index is 10%. The index pays a dividend of 1% per annum, or
0.25% per season. When dividends are taken into account, an investor in the
index would therefore earn -9.75% over the 3-month period.
• It follows that the expected return (%) on the portfolio during the 3 months is:
The expected value of the portfolio (inclusive of dividends) at the end of the 3
months is
so the total value of the hedger’s position is

4,286,187+810,000=$5,096,187

Changing Beta
In general, to change the beta of the portfolio from
, ,
1. If ,, a short position in
contracts is required.
2. If , a long position in
contracts is required.
Changing Beta
What position is necessary to reduce the beta
of the portfolio to 0.75?
What position is necessary to increase the
beta of the portfolio to 2.0?

Why Hedge Equity Returns
Hedgers holding a portfolio for a long period want
short-term protection in an uncertain market
situation. Hedging avoids the costs of selling and
repurchasing the portfolio.
The hedgers feel stocks in a portfolio have been
chosen well and will outperform the market in both
good and bad times. Hedging ensures that the
return you earn is the risk-free return plus the
excess return of your portfolio over the market.

Stack and Roll (page 65-66)
Sometimes the expiration date of the hedge is later than the delivery
dates of all the futures contracts that can be used. The hedger must then
roll the hedge forward by closing out one futures contract and taking the
same position in a futures contract with a later delivery date. Hedges can
be rolled forward many times. The procedure is known as stack and roll.
We can roll futures contracts forward to hedge future exposures
Initially we enter into futures contracts to hedge exposures up to a time
horizon
Just before maturity we close them out and replace them with new
contract covering the new exposure, etc.

Liquidity Issues (See Business Snapshot 3.2)
In any hedging situation there is a danger that
losses will be realized on the hedge while the
gains on the underlying exposure are unrealized
This can create liquidity problems
One example is Metallgesellschaft which sold
long term fixed-price contracts on heating oil and
gasoline and hedged using stack and roll.


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Chapter 3

Hedging Strategies Using

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

 0.7777  3,880,000 83,580  36.10

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

can be used as a basis for hedging a diversified portfolio

Options, Futures, and Other Derivatives, 8th Edition,

so the total value of the hedger’s position is

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

Options, Futures, and Other Derivatives, 8th Edition,

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