When a Futures Contract Is Used to Hedge a Position

question 42

Essay

When a futures contract is used to hedge a position where either the portfolio or the individual financial instrument is not identical to the instrument underlying the futures, it is called cross hedging. Cross hedging is common in asset/liability and portfolio management and in hedging a corporate bond issuance. Answer the below questions.
(a) Why is cross hedging common?
(b) What does it introduce?
(c) What two factors determine the effectiveness of a cross hedge?

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Definitions:

Dentin

A calcified tissue that makes up the bulk of a tooth beneath the enamel and above the pulp, providing the tooth with its primary structure and shape.

Cementum

A specialized calcified substance covering the root of a tooth.

Ingestion

The process of taking food (or other material) into the body.

Digestive Cavity

A hollow chamber within an organism where digestion of food occurs.