Farmer’s Income Risk and Risk Management by Cross-Hedging: A Note

The purpose of this study is to provide theoretical insights into the optimal hedging strategies in farmers contracts usage. We study the hedging decisions of a risk-averse farmer. The farmer faces multiple sources of price uncertainty. Cross-hedging is plausible in that one of these two commodities has a futures market. We show that the farmer’s optimal futures market position is a fullhedge, an over-hedge, or an under-hedge, depending on whether the two random prices are strongly positively correlated, uncorrelated, or negatively correlated, respectively.