Optimal Hedge Ratio Estimation of Single Stock Futures Contract.

Abstract

This research consists purposes were 1. to find optimal hedge ratio and 2. to compares the effective of the hedging in both time varying and constant hedge ratio by using econometric models such as Ordinary Least Squares (OLS) Vector Error Correction Model (VECM) Vector Autoregressive Model (VAR) and dynamic hedge ratios using Generalized Autoregressive Conditional Heteroscedasticity Model (GARCH) Data from 112 securities from TFEX were selected to study and its daily closing price was collected to compute the returns of those stocks from January 2015 to late December 2019. The results found that 1) The result of the hedge ratio estimation through VECM model show that the returns of the underlying stock in the spot market over time can explain the returns of the single Stock Futures in the futures market at the present time is statistically significant. Hedge ratio estimation using  GARCH model reveals that the historical discrepancy of the underlying asset price in both the spot market and  futures market correlates in the same direction with the volatility of the underlying asset's return in both spot market and Futures market at the present time with statistical significance And the result of estimating the hedge ratio through OLS model found that the return of Single Stock Futures in the futures market in the current period is significantly correlated with the return of the underlying asset in the spot market in the current period and 2) The empirical results showed that dynamic model, GARCH had the highest % Variance Reduction of 9.92% and have highest the hedging effectiveness because GARCH model will a reflection of the actual news information changes over time and the dynamic models could change over time in accordance with the returns of stock.