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Hedging Interest Rate Risk with Futures Portfolios under Full-Rank Assumptions

Published online by Cambridge University Press:  06 April 2009

Jimmy E. Hilliard  and
Susan D. Jordan
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Abstract

A spot portfolio of rate-sensitive assets can be hedged by a portfolio of interest-sensitive futures contracts. The hedge ratios of minimum-variance portfolios are unique when the fixed cash flows of underlying instruments are linearly independent and when the covariance matrix of unexpected changes in spot rates over the term of the cash flows is of full rank. Hilliard's (1984) full-rank model has produced smaller portfolio variances than a duration model in a short-term hedging context. However, the methodology typically requires extensive econometric analysis. This paper develops a structured covariance matrix of full rank that requires only one parameter estimate. Hedging examples are provided.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 24 , Issue 2 , June 1989 , pp. 217 - 240
Copyright
Copyright © School of Business Administration, University of Washington 1989

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