Skewness Aversion, Output Uncertainty and Hedging in a Futures Market

20 Pages Posted: 25 Feb 2005  

Uri Ben-Zion

Technion-Israel Institute of Technology - The William Davidson Faculty of Industrial Engineering & Management; National Bureau of Economic Research (NBER)

Leon Zolotoy

CentER, Tilburg University

Gregory Yom Din

Open University of Israel - Department of Management and Economics; Faculty of Exact Sciences, Tel Aviv University

Date Written: February 25, 2005

Abstract

This paper presents a simple theoretical equilibrium model for the competitive commodity futures market where the agents face both price and output uncertainty. Three groups of agents, producers, entrepreneurs and speculators are introduced. A three-moment expected utility function is applied which accounts for both volatility and negative skewness aversion (prudence). We show that negative skewness aversion reduces the hedging incentive of the producer (farmer) and in some cases causes the latter to enter speculative positions in a futures market. In addition, we show that in presence of agents with three-moment expected utility function an equilibrium futures price is positively biased estimator of the expected market price in comparisson to the classical case of agents with mean-variance preferences.

Keywords: Skewness Aversion, Output Uncertainty, Futures Pricing, Speculators

JEL Classification: D81, G13

Suggested Citation

Ben-Zion, Uri and Zolotoy, Leon and Yom Din, Gregory, Skewness Aversion, Output Uncertainty and Hedging in a Futures Market (February 25, 2005). Available at SSRN: https://ssrn.com/abstract=673344 or http://dx.doi.org/10.2139/ssrn.673344

Uri Ben-Zion

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Technion-Israel Institute of Technology - The William Davidson Faculty of Industrial Engineering & Management ( email )

Haifa 32000
Israel
(972-4) 829-4432 (Phone)
(972-4) 829-5688 (Fax)

Leon Zolotoy (Contact Author)

CentER, Tilburg University ( email )

Postbus 90153
Tilburg, DC 5000 LE
Netherlands

Gregory Yom Din

Open University of Israel - Department of Management and Economics ( email )

1 University Road
Raanana, 43107
Israel

Faculty of Exact Sciences, Tel Aviv University

Tel Aviv
Israel
972-46964932 (Phone)

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