Korean Energy Economic Review ISSN:1599-7057(Print) 에너지경제연구

This study suggested an efficient purchasing strategy for the domestic generation companies to stabilize the price volatility of imported bituminous coals. The specific purchasing strategy involves a procurement hedging using forward market to protect against price increases. In order to examine the effectiveness of procurement hedging, this study adopts a simulation approach based on the GBM stochastic process model. It also assumes the hedging effects in terms of reduction in the mean and standard deviation of net procurement costs, the hedging periods of 1 to 12 months, and the hedging strategies based on 1:1, OLS and ECM with the case of no hedge. The sample data corresponds to the spot and forward prices of four major steam coals reported by Platts. The sample period ranges from January 1, 2002 to February 28, 2005. According to the empirical results, any hedging strategy will lower the expected value of net procurement costs, and the cost reduction size will increase as hedging period gets longer. While the OLS and ECM hedges will reduce the volatility, the 1:1 hedge increases it. And, the effects of volatility reduction will improve as hedging period becomes longer. When one intends to decrease the expected value and volatility of net procurement costs, it would be better to use OLS than ECM in estimating hedge ratio.