A Profitable Modification to Global Quadratic Hedging

43 Pages Posted: 22 Jun 2018 Last revised: 26 Oct 2019

See all articles by Maciej Augustyniak

Maciej Augustyniak

University of Montreal - Department of Mathematics and Statistics

Frédéric Godin

Concordia University, Quebec - Department of Mathematics & Statistics; Université Laval

Clarence Simard

UQAM

Date Written: May 23, 2019

Abstract

Recent research has shown that global quadratic hedging, also known as variance-optimal hedging and mean-variance hedging, can significantly reduce the risk of hedging call and put options with long-term maturities (one year or more), such as Long-Term Equity AnticiPation Securities (LEAPS). We propose a modification to global quadratic hedging that is more profitable on average to the hedger without substantially increasing his downside hedging risk, if at all. We prove mathematically that the expected terminal hedging gain of our modified strategy is greater than that of the global quadratic hedging strategy. The performance of our strategy is evaluated under simulated return paths from GARCH and regime-switching models, and under empirical S&P 500 return paths.

Keywords: Risk Management, Variance-Optimal Hedging, Mean-Variance Hedging, Global Risk-Minimization, LEAPS

JEL Classification: C22, C61, G32

Suggested Citation

Augustyniak, Maciej and Godin, Frédéric and Simard, Clarence, A Profitable Modification to Global Quadratic Hedging (May 23, 2019). Journal of Economic Dynamics and Control, Vol. 104, 2019. Available at SSRN: https://ssrn.com/abstract=3193011 or http://dx.doi.org/10.2139/ssrn.3193011

Maciej Augustyniak (Contact Author)

University of Montreal - Department of Mathematics and Statistics ( email )

C.P. 6128, succursale Centre-ville
Montreal, Quebec H3C 3J7
Canada

HOME PAGE: http://dms.umontreal.ca/

Frédéric Godin

Concordia University, Quebec - Department of Mathematics & Statistics ( email )

1455 De Maisonneuve Blvd. W.
Montreal, Quebec H3G 1M8
Canada

Université Laval ( email )

2214 Pavillon J-A. DeSeve
Quebec, Quebec G1K 7P4
Canada

Clarence Simard

UQAM ( email )

Montreal, Québec H3C 3P8
Canada

HOME PAGE: http://www.uqam.ca

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