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Basis risk and weather hedging effectiveness

Agricultural Finance Review

ISSN: 0002-1466

Article publication date: 5 May 2008

Abstract

Basis risk – the risk that payoffs of a hedging instrument do not correspond to the underlying exposures – is cited as a primary concern for implementing weather data, we investigate several dimensions of weather basis risk in the U.S. corn market. Results suggest that while geographic basis risk can be significant, it should not preclude the use of geographic cross‐hedging, particularly with temperature as opposed to precipitation derivatives. Risk reduction is appreciable and the degree to which geographic basis risk impedes effective hedging diminishes as spatial aggregation in the risk exposure and hedging instrument increases.

Keywords

Citation

Woodard, J.D. and Garcia, P. (2008), "Basis risk and weather hedging effectiveness", Agricultural Finance Review, Vol. 68 No. 1, pp. 99-117. https://doi.org/10.1108/00214660880001221

Publisher

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Emerald Group Publishing Limited

Copyright © 2008, Emerald Group Publishing Limited