Mari Halvorsdatter Hodnekvam presents her master's thesis

Evaluation of Hedging Strategies

Abstract

The objective of this thesis is to examine the hedging strategies
called the float factor strategies. The strategies were tested for
different trends in the market in order to see if their hedging
results differed. If the results differed, which strategy performed
the best and why it performed better, was examined.

In order to obtain a market movement as realistic as possible, the
Bates model using stochastic parameters was utilized. Bates parameters
were calibrated from historic stock index data, resulting in one
parameter set per day. An autoregressive process was then used to
simulate new Bates parameter with the same properties as the ones
calibrated from real data.

Before testing the strategies, hedging in general is discussed. Two
models are introduced, namely the Black-Scholes model and the Bates
model. It is seen that hedging in the incomplete Bates model is a far
more complex procedure than hedging in the Black-Scholes model. This
is mainly due to the possibility of jumps appearing.

Further, utilizing the float factor strategies for hedging sold
European call options indicates that the strategies do perform
differently for different market behavior. The most pronounced
difference in performance was observed for a positive trending market.