International Journal of Business and Economics Volume 6, No. 3 December, 2007

Wavelet Estimation of Asymmetric Hedge Ratios: Does Econometric Sophistication Boost Hedging Effectiveness?

Elizabeth A. Maharaj

Department of Econometrics and Business Statistics, Monash University, Australia

Imad Moosa

Department of Accounting and Finance, Monash University, Australia

Jonathan Dark

Department of Finance, University of Melbourne, Australia

Param Silvapulle

Department of Econometrics and Business Statistics, Monash University, Australia

Abstract

This paper utilises wavelet analysis, which is becoming popular in economics and finance, to estimate the hedge ratios for spot positions on the West Texas Intermediate crude oil, soybeans and the S&P500 index. This technique is combined with a two-stage regime switching threshold model to estimate asymmetric hedge ratios corresponding to positive and negative returns on futures contracts. Other simple and sophisticated techniques are also used as a benchmark for the purpose of comparison, including the naïve model and the asymmetric error correction GJR-GARCH model. On the basis of the variance ratio test and variance reduction, it is revealed that econometric sophistication does not boost hedging effectiveness.

Keywords：asymmetric hedge ratios, variance ratio, variance reduction, wavelets.

JEL Classifications：C22, C53, G30.

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