Effective cross hedging: evidence from physical crude palm oil and its interrelated and non-interrelated agricultural and energy futures contracts / Ahmad Danial Zainudin

Since its establishment, Crude Palm Oil futures contract (FCPO) has been used to hedge its physical crude palm oil (CPO) in cash market. However, due to the excessive speculation activities on crude palm oil futures market, the recent researchers found that FCPO to be no longer an effective hedging tool to mitigate the price risk in cash market. This triggers the need for physical traders to find possible alternatives to ensure that the hedging role can be executed effectively. Therefore in this study, Ordinary Least Square, bivariate VAR and bivariate VECM were used to examine whether other interrelated and non-interrelated agricultural and energy futures contracts could serve as effective cross-hedging mechanisms for the CPO. Weekly data of agricultural and energy futures contracts from Chicago Board of Trade (CBOT), Intercontinental Exchange (ICE), New York Mercantile Exchange (NYMEX), Tokyo Commodity Exchange (TOCOM), and Dalian Commodity Exchange (DCE) are employed to cross hedge the physical crude palm oil prices. The study starts from 2006 until 2016. Empirical results indicate that bivariate VECM gives more hedging variance reduction. Overall FCPO is still the best futures contract for hedging purposes while Chicago Soybean (CBOTBO) provides the best alternative if cross hedging is considered. While Japanese crude oil futures (TOCOM) represents the energy futures market as the best cross hedge alternatives for CPO.