Based on the minimum variance hedge ratio approach what is the hedging effectiveness,given the following information.The correlation coefficient between changes in the underlying instrument's price and changes in the futures contract price is 0.70,the standard deviation of the changes in the underlying position's value is 40%,and the standard deviation of the changes in the futures contract's price is 50%.(Select the closest answer. )
A)50%
B)45%
C)40%
D)35%
E)30%

Question

Quizplus · Accepted Answer

The hedging effectiveness is given by the formula:HE = (ρ * σ_U * σ_F) / (σ_U^2 + σ_F^2)where:ρ is the correlation coefficient between changes in the underlying instrument's price and changes in the futures contract priceσ_U is the standard deviation of the changes in the underlying position's valueσ_F is the standard deviation of the changes in the futures contract's pricePlugging in the given values, we get:HE = (0.70 * 0.40 * 0.50) / (0.40^2 + 0.50^2) = 0.50Therefore, the hedging effectiveness is 50%.

Based on the Minimum Variance Hedge Ratio Approach What Is