Explanation:
In a stack and roll hedge, the producer uses short-dated futures contracts and rolls them forward as they mature. This approach is typically chosen when:
Both concerns are valid reasons for choosing a stack and roll hedge over a strip hedge. A strip hedge would use futures contracts with maturities matching each delivery date, but this requires the availability and liquidity of longer-dated contracts.
Key points:
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An oil producer has an obligation under an agreement to supply 75,000 barrels of oil every month for one year at a fixed price. He wishes to hedge his liability to address the event of an upward surge in oil prices. The producer has opted for a stack and roll hedge rather than a strip hedge. Which of the following two statements are correct?
A
The producer is concerned about the liquidity of longer-dated futures contracts.
B
The producer is concerned about the lack of availability of longer-dated futures contracts.
C
The producer is concerned about the lack of availability of longer-dated futures contracts and the liquidity of longer-dated futures contracts.
D
The producer is concerned about the lack of availability of longer-dated futures contracts or the liquidity of longer-dated futures contracts.
E
The producer is concerned about the lack of availability of longer-dated futures contracts and the liquidity of longer-dated futures contracts, but not both.
F
The producer is concerned about the lack of availability of longer-dated futures contracts or the liquidity of longer-dated futures contracts, but not both.