Farmer D Jones has a crop of grapefruit that will be ready for harvest and sale as
Question:
Farmer D Jones has a crop of grapefruit that will be ready for harvest and sale as 150,000 pounds of grapefruit juice in 3 months. Jones is worried about possible price changes, so he is considering hedging. There is no futures contract for grapefruit juice, but there is a futures contract for orange juice. His son, Gavin, recently studied minimum-variance hedging and suggests it as a possible approach.
Currently the spot prices are $1.20/lb for orange juice and $1.50/lb for grapefruit juice. The standard deviation of the prices of orange juice and grapefruit juice is about 20% per year, and the correlation coefficient between them is about 7.
What is the minimum-variance hedge for farmer Jones, and how effective is this hedge compared to no hedge?
Data Analysis and Decision Making
ISBN: 978-0538476126
4th edition
Authors: Christian Albright, Wayne Winston, Christopher Zappe