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Optimal hedging strategy for risk management on a network

By Tianjiao Gao, Aparna Gupta, Nalan Gulpinar and Yun Zhu


The paper develops a network-based framework to assess the impact of a firm's financial interconnections and interdependencies on it optimal hedging and risk transfer strategy. This is important consideration as risk concentrations and propagation embedded in risk transfers pose as a significant challenge for financial regulations and risk management. Using an a priori and an a posteriori analysis, we investigate the impact of the network structure on optimal hedge decisions and hedge efficacy. The a priori analysis shows that network features play an important role in determining corporate hedging decisions through their impact on hedge costs. In the a posteriori analysis for counterparty risk, benefit of modification from the a priori optimal hedge decision is realized when variance of firm value matters, but not when tail risk measures are utilized. Financial network assessment indicates that an a priori analysis is insufficient for robust hedging decisions, and choice of risk measures behind risk management objectives dictates the extent of impact of network characteristics

Publisher: 'Elsevier BV'
Year: 2015
DOI identifier: 10.1016/j.jfs.2014.10.005
OAI identifier:
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