Explanation:
This strategy is called a stack-and-roll hedge and is designed to hedge long-term risk exposures with short-term contracts. Using short-term futures contracts with a larger notional value than the long-term risk they are meant to hedge could result in "over-hedging" depending on the hedge ratio.
(Book 1, Module 9.1, LO 9.a)
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Question 10
Metallgesellschaft Refining and Marketing (MGRM) offered customers contracts to buy fixed amounts of heating oil and gasoline at a fixed price over a 5- or 10-year period. The customer contracts effectively gave MGRM a short position. MGRM hedged exposure using a rolling hedge strategy. This strategy is best described as:
A
buying futures contracts of different expirations and allowing them to expire in sequence.
B
buying futures contracts of different expirations and closing out the position shortly before expiration.
C
using short-term futures to hedge a long-term risk exposure by replacing them with newer contracts shortly before they expire.
D
using short-term futures contracts with a larger notional value than the long-term risk they are meant to hedge.
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