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Tradeoffs from hedging oil pricerisk in Ecuador

Author

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  • Satyanarayan, Sudhakar
  • Somensatto, Eduardo

Abstract

The oil sector is critical to Ecuador's economy, contributing about 17 percent to the country's GDP. Ecuador began exporting crude oil in 1972 and over the past two and a half decades oil has become the country's most important sector. It is controlled by the government through the public enterprise, PETROECUADOR, which serves as the holding company for all state-owned petroleum operations. Movements in oil prices are of major concern to the government, and forecasts of oil prices are built into the government budget. Ecuador's macroeconomic performance depends on the oil sector's performance; shocks to the sector have economywide repercussions. The authors investigate methods to reduce risk for the country's oil exports through hedging in futures markets. They find that hedging Ecuadorian oil has significant potential for risk reduction. After simulating ex-ante cross hedges for 1991-96, they find that in each case ex-ante hedging effectively reduces risk. They calculate the tradeoffs between return and risk from hedging and find that for a risk-minimizing short hedger, a 1-percent reduction in risk would cost a reduction in return of 0.65 percent.

Suggested Citation

  • Satyanarayan, Sudhakar & Somensatto, Eduardo, 1997. "Tradeoffs from hedging oil pricerisk in Ecuador," Policy Research Working Paper Series 1792, The World Bank.
    • Handle: RePEc:wbk:wbrwps:1792
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    References listed on IDEAS

    as
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    Full references (including those not matched with items on IDEAS)

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