Journal of Futures Markets, 32 (3):272-299
28 Pages Posted: 10 Feb 2011 Last revised: 10 Dec 2014
Date Written: February 7, 2011
This paper investigates the hedging effectiveness of a dynamic moving window OLS hedging model, formed using wavelet decomposed time-series. The wavelet transform is applied to calculate the appropriate dynamic minimum-variance hedge ratio for various hedging horizons for a number of assets. The effectiveness of the dynamic multiscale hedging strategy is then tested, both in- and out-of-sample, using standard variance reduction and expanded to include a downside risk metric, the time horizon dependent Value-at-Risk. Measured using variance reduction, the effectiveness converges to one at longer scales, while a measure of VaR reduction indicates a portion of residual risk remains at all scales. Analysis of the hedge portfolio distributions indicate that this unhedged tail risk is related to excess portfolio kurtosis found at all scales.
Suggested Citation: Suggested Citation
Conlon, Thomas and Cotter, John, An Empirical Analysis of Dynamic Multiscale Hedging Using Wavelet Decomposition (February 7, 2011). Journal of Futures Markets, 32 (3):272-299. Available at SSRN: https://ssrn.com/abstract=1756800 or http://dx.doi.org/10.2139/ssrn.1756800