The Estimation And Analysis Of Hedge Ratios Based On Error Correct Term And GARCH Model

Exchange rate, defined as the ratio of one currency to another, has become a core variance of the economics with the development of float exchange rate regime. After China's reform and opening, her domestic financial markets gradually go in line with the international practice. This trend of market inosculation accelerates after China's entrance of the WTO, accompanied with an increment of international financial risks, especially of the exchange rate risk. This paper studies about how to hedge foreign rate risk with currency futures. Due to the great importance of the optimal hedge ratio (OHR) estimation in the hedge theory, this paper try to find out a better method to estimate the hedge ratio in order to get a more efficient management of exchange rate risk by using foreign currency futures.This paper introduces a model which takes consideration of both the long-term equilibrium (co-integration) between spot price and future price and the time-varying factor of OHR (called BGARCH(1, 1)-ECT model to make it different from other models).This model can estimate the time-varying OHR because it make full use of all the history data. Besides, as a result of the introduction of error correct term (ECT), this paper also brings the co-integration between spot price and future price into the estimation. In the demonstration analysis, this paper uses the latest five years data of the most important six international currencies at present to review how six different kinds of hedge strategies perform in terms of hedge effectiveness.After using in-and out-of-sample tests, this paper gets a quite coherent conclusion, that is in general, BGARCH(1, 1)-ECT provides greater risk reduction than all the No-Hedge, Naive Method, OLS, OLS-ECT and BEKK models, it is a more effective hedge model.