Financial Instruments to Hedge Commodity Price Risk for Developing CountriesInternational Monetary Fund, Monetary and Capital Markets Department, 2008 - Commercial products - 22 pages Many developing economies are heavily exposed to commodity markets, leaving them vulnerable to the vagaries of international commodity prices. This paper examines the use of commodity options - including plain vanilla, risk reversal, and barrier options - to hedge such risk. It then proposes the use of a new structured product - a sovereign Eurobond with an embedded option on a specific commodity price. By extracting commodity price risk out of the bond, such an instrument insulates the bond default risk from commodity price movements, allowing it to be marketed at a lower credit spread. The product is also designed to help developing countries establish a credit derivatives market, which would in turn enhance the marketability and liquidity of sovereign bonds. |
