Testing the Hedging Effectiveness of Gold Derivative Market in India

Abstract

The purpose of this article is to estimate the hedging effectiveness of the Indian Gold Derivative Market from both the statistics of Static hedge methodology of Vector Error Correction Method and Time-Varying hedge methodology of DVEC-GARCH, covering the time span of 1st April 2005 till 31st March 2019, to account for any difference existence in both. The study is conducted to judge the performance of gold futures as a tool of risk management. The result reveals the fact that hedging effectiveness from both the methodologies are found to be 35%. The reason behind low hedging efficiency might be due to the fact that gold itself is used as a hedge instrument and always in demand by the Indian investors for varied reasons as well as its accessibility in various forms (Gold ETFs and Gold Bonds issued by Government). The hedgers’ participation may be less as compared to speculators with respect gold future hedging. The results of phase-wise analysis, that is, before crisis (2005–2007), the hedging efficiency comes out to be 26%, during the crisis (2008–2012) 38.7% and after the crisis (2013–2018) 40% from both the static and dynamic hedge ratio models. The results showed that with the outbreak of Global Financial crisis in 2007–2009 and European debt crisis in 2010–2012 and thereafter, gold futures are increasing use as a risk management tool, but still at a minimal level.

DOI: https://doi.org/10.21863/jcar/2024.13.1.004

Keywords: Gold, Spot Prices, Future Prices, Hedging Effectiveness, Risk Management

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