# [R] help on cross hedge optimal hedge variance ratio

From: Krishna <snvk4u_at_gmail.com>
Date: Fri 12 Aug 2005 - 19:07:38 EST

Hi everyone

I am trying to estimate the optimal hedge variance ratio for cross hedging two commodities. the price levels are used (compared to price change and % price change) and used the OLS with dummy variable for estimating the co-efficients. the equation looks like this

Y = B + B1*D1 + B2*X + B3*(X*D1)

Where Y = Daily Cash market price
D1 = Dummy variable taking value 1 for period Oct-Mar and 0 for Apr-Sep X = Daily futures market price on which cross hedging is done. B,B1,B2,B3 are the slope co-efficients.

The results look like this
Regression Statistics

```Multiple R		0.948702709
R Square		0.900036831
Standard Error		25.52050965
Observations		1334

Coefficients	Standard Error	t Stat	P-value
Intercept	53.817		4.375		12.300	0.000
X	0.986		0.012		80.283	0.000
D1	27.399		6.106		4.487	0.000
D1 * X	-0.100		0.017		-5.820	0.000

```

It is understood the slope co-efficients for different periods are significant as indicated by t-table value. But I feel suspicious on the reliability of this values.

I have used 5 years of daily price data for running the regression, and I feel suscpicious becasue, the monthly correlations (pearson correlation co-efficient) are highly varying between spot and futures and some times even negative.

Can someone suggest me
a) the tests to judge the reliability of hedge-variance values b) Is there any other better method than described here for estimating the hedge-variance values

Thank you for the attention and look forward for an early reply

rgds

snvk

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