Time-Varying Distribution and Hedging Effectiveness of Three Pacific-Basin Stock Futures

Abstract

This paper investigates the hedging effectiveness of Australian, Hong Kong and Japanese stock futures markets. For each market two sets of futures indices are used in the empirical tests. Effectiveness of four different hedging ratios depending on different estimation procedures are investigated. The unhedged, the traditional hedge and the minimum variance hedge ratios are all constant while the bivariate GARCH hedge ratio is time-varying. The effectiveness of the hedge ratio are compared by investigating the out-of-sample performance of the four ratios. The whole sample consist of daily returns from January 1990 to December 1998. Two out-of-sample periods are used January1997 to December 1998 (two years) and from January 1998 to December 1998 (one year). Results show that the time-varying GARCH hedge ratio out-performs the constant ratios in most of the cases but not all. This is true using both out-of-sample periods.

Keywords: Hedge Ratio, Bivariate GARCH, Cash Index, Futures Index, Variance

JEL Classification: G1, G13