The use of multiple risk management strategies: evidence from the natural gas industry

ABSTRACT Starting in 1978 and continuing throughout the 1980s, natural gas pipelines faced a series of regulatory changes, including price deregulation, which changed their exposures to price and quantity risk. We exploit this unique environment and examine cross-sectional and time-series patterns in the use of multiple risk management strategies by pipeline companies. Natural gas pipelines use a combination of such strategies, including gas storage, cash holdings, line-of-business and geographic diversification, and commodity derivatives to hedge their increasing risks. Gas storage shows a complementary relation to holding cash and using derivatives to mitigate these risks. However, differences in the financial characteristics of derivatives hedgers and storage hedgers suggest that firms use derivatives to manage price risk and store gas to manage volume risk. Derivatives hedgers are similar to firms that diversify. In addition, firms that engage in hedging activities have smaller and less variable sensitivities to price changes than firms that do not, especially post-deregulation.