Hedging and Competition

Abstract

We study how risk management through hedging impacts firms and competition among firms in the life insurance industry - an industry with over 7 Trillion in assets and over 1,000 private and public firms. We show that firms that are likely to face costly external finance increase hedging after staggered state-level financial reform that reduces the costs of hedging. After hedging, these firms have lower risk and fewer negative income shocks. Post market reform, product market competition is also impacted. Firms that are previously more likely to face costly external finance, lower price, increase policy sales and market share relative to unaffected companies. The results are consistent with hedging allowing firms that face potential costly financial distress to decrease risk and become more competitive.