Dynamic and static hedging in electricity: Where do we stand?

Abstract

Derivative contracts like futures are usually used to reduce the risk from variations in the spot market. In this work we use monthly futures contracts in the German electricity market, estimating the minimum variance hedge ratio conditionally by the multivariate GARCH diagonal BEKK model and unconditionally by OLS, the naïve strategy and wavelets. Even if low in terms of variance reduction, results indicate that dynamic hedging provides superior gains compared to those obtained from static hedging and wavelet time-scale decompositions.