Abstract

The classical global hedging approach presented in the literature (see Schweizer [1995]) involves using only the underlying asset to hedge a given contingent claim. The current thesis extends this approach by allowing for the use of a portfolio comprised of the underlying as well as other options written on that same underlying to be used as hedging instruments. Classical quadratic global hedging results such as the dynamic programming solution approach are adapted to this framework and are used to solve the global hedging problem presented here. The performance of this methodology is then investigated and benchmarked against the classical global hedging, as well as the traditional delta and delta-gamma hedging approaches. Various numerical analyses of the hedging errors, turnover and the shapes of quantities involved in dynamic programming solution approach are performed. It is found that option-based global hedging, where options are used as hedging instruments, outperforms other methodologies by yielding the lowest quadratic hedging error as expected. Situations where option-based global hedging has the most significant advantage over the other hedging methodologies are identified and discussed.