Hedge ratio calculation

Questions such as the uses to which European bond futures can be put, contract specifications and trading volumes are discussed with illustrative examples. Technical issues, which surround the use of bond futures, are also examined and presented with numerical examples. The issues include the calculation of gross and net basis, identifying the cheapest-to-deliver (CTD) cash market bond, different approaches to measuring relative volatility, calculating hedge ratios, and portfolio duration adjustment. Bloomberg screen output is used to provide a real world flavour to the topics covered. 

The primary risk measure required when using a swap to hedge is the present value of a basis point. PVBP, known in the U.S. market as the dollar value of a basis point, or DVBP indicates how much a swap s value will move for each basis point change in interest rates and is employed to calculate the hedge ratio. PVBP is derived using equation (7 23). 

The notional maturity of a long-bond contract is always given as a range for the contract on the 10-year note, for example, it is six to ten years. The duration used to calculate the hedge ratio would be that of the cheapest-to-deliver bond. 

Hatemi-J A, Roca E (2006) Calculating the optimal hedge ratio Constant, time varying and the Kahnan filter approach. Appl Econom Lett 13(5) 293-299... 

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