Bank funding risks, risk aversion, and the choice of futures hedging instrument

Article Abstract:

Most current theories of financial futures hedging are based on a portfolio-choice approach or a duration approach, but an alternative is presented here in the form of a firm-theoretic model of bank behavior with financial futures. Expressions for the best futures hedge are derived under constant absolute risk aversion and constant relative risk aversion, assuming uncertainty about cash certificate of deposit interest rates and the quantity of certificates of deposit required in the future. Using either the certificate of deposit futures contract recently developed or the Treasury Bill futures contract, the performance of the two strategies is estimated for the period between 1981 and 1983. The results are compared with the performance of a portfolio-choice strategy and a routine hedging strategy. It is shown that the certificate of deposit futures market can be used in hedging in a way unserved by the Treasury Bill futures market previously established.

Models, Banking industry, Economic aspects, Risk (Economics), Hedging (Finance), Financial futures

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Optimal financial instruments

Article Abstract:

Debt and equity are developed as optimal financial instruments in a model where cash flows and control rights are allocated to investors endogenously. When investment decisions must be made by a single party, the debtholder's cash flows are fixed in order to provide the equityholder with efficient incentives for investment. Ownership of control may be transferred to the debtholder to attenuate the impact of asymmetric information, concerning the investment opportunity, on the efficiency of the decision making. (Reprinted by permission of the publisher.)

Financial instruments, Debt financing (Corporations), Debt financing

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