Role of Indian Commodity Derivatives Market in Hedging Price Risk: Estimation of Constant and Dynamic Hedge Ratio and Hedging Effectiveness

30 Pages Posted: 17 Aug 2009

See all articles by Brajesh Kumar

Brajesh Kumar

Jindal Global Business School; IIM Ahmedabad

Ajay Pandey

OP Jindal Global University - Jindal Global Law School (JGLS)

Date Written: August 14, 2009

Abstract

This paper examines hedging effectiveness of four agricultural (Soybean, Corn, Castor seed and Guar seed) and seven non-agricultural (Gold, Silver, Aluminium, Copper, Zinc, Crude oil and Natural gas) futures contracts traded in India. We apply VECM and CCC-MGARCH model to estimate constant hedge ratio and dynamic hedge ratios respectively. We find that agricultural futures contracts provide higher hedging effectiveness (30-70%) as compared to non-agricultural futures (20%). In the more recent period, the hedging effectiveness of Indian futures markets has increased. When hedging effectiveness of non-agricultural Indian futures contracts with the world spot markets (NYMEX and LME) is analyzed, hedging effectiveness increases dramatically which indicates the fact that Indian futures contracts are more effective for hedging exposures to global prices. Other reasons of lower hedging effectiveness of Indian futures contracts may be low awareness of futures markets among participants, low participation of hedgers, high transaction costs in the futures markets, policy restrictions, lower number of delivery centers, inadequate contract design or high transaction costs in the spot market. These are, of course, expected birth pays for a nascent futures markets in an emerging economy.

Keywords: CCC-MGARCH, commodity futures, hedging effectiveness, dynamic hedge ratio

JEL Classification: C32, G12, G13

Suggested Citation

Kumar, Brajesh and Pandey, Ajay, Role of Indian Commodity Derivatives Market in Hedging Price Risk: Estimation of Constant and Dynamic Hedge Ratio and Hedging Effectiveness (August 14, 2009). 22nd Australasian Finance and Banking Conference 2009. Available at SSRN: https://ssrn.com/abstract=1452881 or http://dx.doi.org/10.2139/ssrn.1452881

Brajesh Kumar (Contact Author)

Jindal Global Business School ( email )

University Sonipat-Narela Road
Near Jagdishpur Vill
Sonipat, Haryana 131001
India
+918930110773 (Phone)

HOME PAGE: http://www.jgbs.edu.in

IIM Ahmedabad ( email )

Vastrapur
Ahmedabad, Gujarat 380 015
India

Ajay Pandey

OP Jindal Global University - Jindal Global Law School (JGLS) ( email )

Jindal Centre 12 Bhi12 Bhikaiji Cama Place
Near Jagdishpur Village
New Delhi, Uttar Pradesh/Haryana 110 066
India

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