✦ LIBER ✦

Delivery risk and the hedging role of options

✍ Scribed by Donald Lien; Kit Pong Wong

Publisher: John Wiley and Sons
Year: 2002
Tongue: English
Weight: 157 KB
Volume: 22
Category: Article
ISSN: 0270-7314
DOI: 10.1002/fut.10011

No coin nor oath required. For personal study only.

✦ Synopsis

Abstract

Multiple delivery specifications exist on nearly all commodity futures contracts. Sellers typically are
allowed to deliver any of several grades of the underlying commodity and at any of several locations. On the
delivery day, the futures price as such needs not converge to the spot price of the par‐delivery grade at
the par‐delivery location, thereby imposing an additional delivery risk on hedgers. This article derives
the optimal hedging strategy for a risk‐averse hedger in the presence of delivery risk. In particular, it
is shown that the hedger optimally uses options on futures for hedging purposes. This article provides a
rationale for the hedging role of options when futures markets allow for multiple delivery specifications.
© 2002 Wiley Periodicals, Inc. Jrl Fut Mark 22:339–354, 2002

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