An empirical analysis on estimation of the optimal hedge ratio: The case of TURKDEX

Abstract

The objective of this paper is to estimate the optimal hedge ratio for ISE-30 stock index futures contract, traded in Turkish Derivatives Exchange by comparing various econometric techniques. Particularly, the conventional regression model, the error correction model (ECM) and the GARCH model are employed in the study considering hedging performance. The hedging effectiveness of each model is determined by variance reduction of returns for in-sample and out-of-sample horizons. The results imply that, the hedge ratio obtained from the GARCH model achieves minimum portfolio variance by outperforming other model's estimates in both horizons. It is expected that the empirical findings derived from the study will be helpful for risk managers and institutional investors dealing with Turkish stock index futures.