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Hedging as 'Speculation on the Basis'

Quirk, James P. (1984) Hedging as 'Speculation on the Basis'. Social Science Working Paper, 553. California Institute of Technology , Pasadena, CA. (Unpublished)

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Holbrook Working has described hedging as "speculation on the basis" and has argued that traders engage in hedging because they believe they can do better from hedging than from not hedging, in contrast to the Keynes-Hicks-Kaldor view that hedging is an activity undertaken to shift risk to other traders. In this paper, we derive necessary and sufficient conditions for hedging ("speculation on the basis") to be preferred by all risk averse traders to speculating on the cash market. When the futures market is in fact a forward market, then short hedging is p referred to not hedging by all risk averse traders if and only if there is a contango on the market. In the case of a "true" futures market, it is shown that short hedging is preferred to an unhedged position by all risk averse traders if and only if the "Houthakker effect" is sufficiently strong. These results are derived for the "all or nothing" case of comparisons between an unhedged and a completely hedged position.

Item Type:Report or Paper (Working Paper)
Additional Information:This research was supported in part under a grant from the National Science Foundation, SES-8319960.
Group:Social Science Working Papers
Funding AgencyGrant Number
Series Name:Social Science Working Paper
Issue or Number:553
Record Number:CaltechAUTHORS:20170918-144245730
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Usage Policy:No commercial reproduction, distribution, display or performance rights in this work are provided.
ID Code:81541
Deposited By: Jacquelyn Bussone
Deposited On:19 Sep 2017 16:45
Last Modified:03 Oct 2019 18:44

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