Cross-hedging the cottonseed crush: A case study

Abstract

This article reports, without breaching confidentiality agreements, on a cross‐hedging consulting study performed for a cottonseed crusher. This article's objectives are twofold. First, it examines how futures markets should be used to hedge cottonseed crushing. The soybean crushing spread is applied in a cross‐hedging context with a portfolio‐risk minimization objective to develop the desired hedge ratios for a variety of cross‐hedging portfolios and for several hedge horizons. The hedge ratios and hedging effectiveness statistics resulting from this analysis are reported. Second, based on follow‐up discussions, this article reports on whether the recommended hedging strategies were adopted, how they were applied, the difficulties in implementing these strategies, and differences between managerial and academic perceptions of hedging strategies. This will lead to the conclusion that the economics of hedge management are as important as the underlying risk aversion in determining hedging behavior. © 2000 John Wiley & Sons, Inc.