Characterizing the hedging policies of commodity price‐sensitive corporations

Abstract

Many corporations face price and quantity uncertainty in commodities for which existing futures and options contracts permit corporations to hedge their risks. Finance theory has demonstrated frictions in capital markets are equivalent to risk‐averse decision‐making: Taking prices and volatilities as exogenous, decision‐makers make optimal hedge decisions as a trade‐off between risk and return. In modeling risk aversion, we use mean‐variance and mean‐value at risk‐utility functions. With options quantified as delta‐equivalent futures, using data from the Commodity Futures Trading Commission and gold companies, we document empirically corporations' hedge ratios appear to respond to changing prices and volatilities in accordance with utility‐function prescriptions.