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Multiperiod Production with Forward and Options Markets

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Abstract

Production and hedging in both forward and options markets are analyzed for forward-looking firms that maximize expected utility. In the presence of unbiased forward and options prices, it is shown that such firms will use options as hedging instruments. This result contrasts with the conclusions from studies that assume myopic behavior, and occurs because forward looking agents care about the effect of future output prices on profits from future production cycles. Simulations support the theoretical results and show how the introduction of an options market influences the optimal forward position.

Suggested Citation

  • Sergio H. Lence & Yong Sakong & Dermot J. Hayes, 1993. "Multiperiod Production with Forward and Options Markets," Center for Agricultural and Rural Development (CARD) Publications 93-wp112, Center for Agricultural and Rural Development (CARD) at Iowa State University.
    • Handle: RePEc:ias:cpaper:93-wp112
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    1. Harvey Lapan & Giancarlo Moschini & Steven D. Hanson, 1991. "Production, Hedging, and Speculative Decisions with Options and Futures Markets," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 73(1), pages 66-74.
    2. Yong Sakong & Dermot J. Hayes & Arne Hallam, 1993. "Hedging Production Risk With Options," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 75(2), pages 408-415.
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    7. Jacob Paroush & Avner Wolf, 1989. "Production and hedging decisions in the presence of basis risk," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 9(6), pages 547-563, December.
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    9. Kerkvliet, Joe & Moffett, Michael H., 1991. "The Hedging of an Uncertain Future Foreign Currency Cash Flow," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 26(4), pages 565-578, December.
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    Cited by:

    1. Marin Bozic, 2010. "Pricing Options on Commodity Futures: The Role of Weather and Storage," Working Papers 1003, The Institute of Economics, Zagreb.
    2. Broll, Udo & Wahl, Jack E. & Zilcha, Itzhak, 1999. "Hedging exchange rate risk: The multiperiod case," Research in Economics, Elsevier, vol. 53(4), pages 365-380, December.
    3. Jonathan Dark, 2005. "A Critique of Minimum Variance Hedging," Accounting Research Journal, Emerald Group Publishing, vol. 18(1), pages 40-49, June.
    4. Tomek, William G. & Peterson, Hikaru Hanawa, 2000. "Risk Management In Agricultural Markets: A Survey," 2000 Producer Marketing and Risk Management Conference, January 13-14, Orlando, FL 19580, American Agricultural Economics Association (New Name 2008: Agricultural and Applied Economics Association).
    5. Battermann, Harald L. & Braulke, Michael & Broll, Udo & Schimmelpfennig, Jorg, 2000. "The preferred hedge instrument," Economics Letters, Elsevier, vol. 66(1), pages 85-91, January.
    6. Lien, Donald & Wong, Kit Pong, 2004. "Optimal bidding and hedging in international markets," Journal of International Money and Finance, Elsevier, vol. 23(5), pages 785-798, September.

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