A Generalized Approach to Optimal Hedging with Option Contracts

In this paper we develop a theoretical model in which a firm hedges a spot position using options in presence of both quantity (production) and basis risk. Our optimal hedge ratio is fairly general, in that the dependence structure is modelled through a copula function representing the quantiles of the hedged position, and hence any quantile risk measure can be employed. We study the sensitivity of the exercise price which minimizes the risk of the hedged portfolio to the relevant parameters, and we find that the subjective risk aversion of the firm does not play any role. The only trade-off is between the effectiveness and the cost of the hedging strategy