Minimizing the variance of the coverage ratio as an approach to optimize the exchange rate risk of Brent futures contracts

Abstract

Derivatives markets show that their structure is always characterized by periods of strong price fluctuations. This is true regardless of the underlying asset of the futures contracts considered, whether they are commodities, interest rates, exchange rates, shares, stock market indices, etc. By locking in future prices, the primary objective of these markets is to limit the risks faced by operators. This article proposes a new method of optimizing the coverage ratio by futures contracts to minimize price variance and thus apply this new technique to reduce the risk associated with Brent price volatility for the period from January 2010 to December 2020. The variance minimization model of Ederington's (1979) is the first and most widely used coverage model and the one that dominates the literature on this area which helps to find the optimal coverage ratio, and is also the objective function in our particle assay optimization algorithm in MATLAB and we will better interpret our results with statistical analysis and lastly, we will evaluate the effectiveness of the coverage model.

Keywords

• brent oil
• risk
• price volatility
• coverage ratio
• optimization
• particle swarm optimization