Time-Varying Hedge Ratios: A Principal-Agent Approach

20 Pages Posted: 4 Oct 2005

See all articles by John K. Kuwornu

John K. Kuwornu

Wageningen UR - Economics of Consumers and Households

W. Erno Kuiper

Wageningen UR

Joost M. E. Pennings

Maastricht University; Wageningen UR

Matthew T.G. Meulenberg

Wageningen UR

Abstract

We use the classic agency model to derive a time-varying optimal hedge ratio for low-frequency time-series data: the type of data used by crop farmers when deciding about production and about their hedging strategy. Rooted in the classic agency framework, the proposed hedge ratio reflects the context of both the crop farmer's decision and the crop farmer's contractual relationships in the marketing channel. An empirical illustration for the Dutch ware potato sector and its futures market in Amsterdam over the period 1971 - 2003 reveals that the time-varying optimal hedge ratio decreased from 0.34 in 1971 to 0.24 in 2003. The hedging effectiveness, according to this ratio, is 39%. These estimates conform better with farmers' interest in using futures contracts for hedging purposes than the much higher estimates obtained when price risk minimisation is the only objective considered.

Keywords: Hedging, Principal-Agent Theory, Time Series, Futures

JEL Classification: C5, F00, G1, Q1

Suggested Citation

Kuwornu, John K. and Kuiper, W. Erno and Pennings, Joost M. E. and Meulenberg, Matthew T.G., Time-Varying Hedge Ratios: A Principal-Agent Approach. Journal of Agricultural Economics, Forthcoming. Available at SSRN: https://ssrn.com/abstract=811587

John K. Kuwornu (Contact Author)

Wageningen UR - Economics of Consumers and Households ( email )

Wageningen
Netherlands

W. Erno Kuiper

Wageningen UR

Hollandseweg 1
6706 KN
Wageningen
Netherlands

Joost M. E. Pennings

Maastricht University ( email )

P.O. Box 616
Maastricht, 6200MD
Netherlands

Wageningen UR ( email )

Hollandseweg 1
Wageningen, 6706KN
Netherlands

Matthew T.G. Meulenberg

Wageningen UR ( email )

Hollandseweg 1
6706 KN Department of Marketing and Marketing Research
Wageningen
Netherlands
31-317-482205 (Phone)
31-317-484361 (Fax)

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