The hedging performance of the CD futures market

✍ Scribed by James A. Overdahl; Dennis R. Starleaf

• Publisher: John Wiley and Sons
• Year: 1986
• Tongue: English
• Weight: 645 KB
• Volume: 6
• Category: Article
• ISSN: 0270-7314
• DOI: 10.1002/fut.3990060107

✦ Synopsis

futures contracts specifying a negotiable certificate of deposit S C D ) as the deliverable instrument have been traded at the International Monetary Market of the Chicago Mercantile Exchange. Before this time, commercial banks often resorted to using other futures contracts-usually Treasury-bill futuresto hedge movements in the interest cost of issuing CD liabilities.

In this article, the hedging performance of the CD futures market is evaluated. The effectiveness of hedging shortterm CDs with CD futures is compared to hedges constructed with Treasury-bill futures. Section I contains a review and criticism of the method employed by Ederington (1979) and others for evaluating the effectiveness of futures market hedges. Section I1 presents the evaluation method used in this article. Empirical results are presented in Section 111, and conclusions are contained in Section IV. Ederington (1979) attempted to evaluate the hedging performance of the T-bill and GNMA futures markets by applying a cash-hedging model developed by Johnson (1960). Hicks (1980) also used this framework to evaluate the performance of the T-bill futures market for hedging anticipated spot positions in the T-bill and CD markets.

I. EDERINGTON'S EVALUATION PROCEDURE

In Ederington's version of Johnson's model, the measure of hedging effectiveness is defined to be the percent reduction in the variance achieved by having an optimally hedged position as opposed to having an unhedged position: e = 1 -[Var(H*)/Var(U)]