Residual Risk, Trading Costs, and Commodity Futures Risk Premia:

• DOI: 10.1093/rfs/1.2.173
• Publication Date: 2002-07-26T22:58:17Z
• Authors: David Hirshleifer
• Keywords: Hedge; Residual risk

Trading costs, in the form either of explicit charges or costs becoming informed, limit participation some classes traders commodity future markets. When speculators face a fixed cost participating futures market that is used by producers to hedge their stochastic revenues, risk premium deviates from perfect prediction. The deviation rises absolute value with square root trading and standard residual returns, it unrelated covariance price producers' nonmarketable wealths. residual-risk depends not on total magnitude (i.e., aggregate revenue variance), but variability relative its mean coefficient variation). Hence, even constitutes minor fraction consumption may have large for if derived has variation.