hedging with options under variance uncertainty an illustration of pricing new crop soybeans the behavior of a commodity s price return variance over time is critical to both the theory and practice of commodity option valuation in this paper three models are used to forecast soybean price variance for the period during which a seasonal increase in variance has been found in previous studies a time series model outperforms the ordinary least squares and naive models the significance of the forecast error levels is then examined in terms of expected deviations above and below a price target for a put hedge the resulting trade off between risk and return is shown by strike price and variance expectation

grain price expectations of illinois farmers and grain merchandisers the study s purpose is to measure the extent to which futures and option prices reflect the subjective price distribution of a subset of market participants farmers and grain merchandisers in illinois findings suggest that in most instances the futures price is an appropriate proxy for expected price however volatilities implied by option premia usually overestimate the subjective variances of producers and merchandisers these differences between individual and market expectations of variance are consistent with findings of overconfidence in the psychology literature and should be considered by analysts when making observations about hedging decisions and risk aversion

a simple model of endogenous agricultural commodity price fluctuations with storage a debate has been raging for centuries regarding the effects of interannual storage on commodity prices most analysts consider storage to function as a price stabilizer while others place it at the core of an explanation of intriguing features of commodity price series such as skewed distributions most studies have been developed in the context of the theory of competitive storage where random shocks affect supply or demand recently the endogenous chaotic behavior of markets has become another possible hypothesis regarding the origin of commodity price fluctuations we develop a nonlinear cobweb model with intra and interannual storage risk averse agents and adaptive expectations like the theory of competitive storage this nonlinear cobweb model with storage can reproduce some of the stylized facts of agricultural commodity prices autocorrelation of first rank low kurtosis and skewness in addition the effects of storage on price variation are mixed in the presence of interannual storage chaotic price series show less variation compared to a situation without interannual storage but we find that storage contributes to the endogenous volatility of prices by making chaotic dynamics more likely

ex ante and ex post welfare optimality under uncertainty it is widely believed by economic theorists that if there were no transactions costs and if all information about the economy were perfectly shared by all then arrow debreu contingent commodity markets should bring about an ideal allocation the basis for this belief seems clear we have the two efficiency theorems of welfare economics which assure us that in the absence of external effects any competitive allocation is pareto efficient and that any pareto efficient allocation is competitive provided that appropriate lump sum transfers are made of course there are some reservations that need to be made local satiation and non convexities are well known to cause problems but these are not the problems i wish to discuss here to return to the usual argument the next step involves noticing how with contingent commodity markets the efficiency theorems of welfare economics carry over to an economy with uncertainty as explained for instance in chapter 7 of debreu s theorpj of value the fundamental value judgment that gives these efficiency theorems their normative interest is what may be called consumer sovereignty it is an assumption that the social welfare ordering should respect the preferences that govern consumers market behaviour it is a serious value judgment more serious than most economists have been prepared to concede but its seriousness increases when there is uncertainty we know full well that individuals misperceive the probabilities of certain events assuming that they even perceive any probabilities at all see for example kahneman and tversky 1979 nor are we always willing to accept as appropriate the attitudes to risk of individuals who seem either extremely reckless or extremely cautious societies are often willing to make some gestures towards property owners who have not insured themselves adequately against damage from fire flood or tempest and not just because of imperfect insurance markets or even misperceptions of probabilities in addition the inequalities of income that arise when some individuals take more risks than others are not necessarily seen to be desirable particularly if an individual has undertaken a useful but risky activity and has a very low income as a result of failure such gestures are examples of contingent lump sum transfers it seems clear that if such transfers occur to a sufficient extent they could supplant completely the securities markets which are usually sufficient to bring about pareto efficiency they may even be able to go further and correct the imperfections of an arrow debreu market allocation when individuals do misperceive probabilities or else have wrong attitudes to risk this is the main question i wish to consider here the idea that consumer sovereignty should not always extend to economies with uncertainty is not new it can be found in work by diamond 1967 dr6ze

ex ante equity in public risk in evaluating decision alternatives that involve risk of death among members of the public there are two types of equity that must be considered namely ex ante and ex post equity among the two ex ante equity is more controversial this paper suggests refinements to recent definitions of ex ante equity based on distribution of individuals risks across equally desirable outcomes and historical inequity

can risk benefit analysis provide consistent policy evaluations of projects involving loss of life many public projects such as the construction of nuclear reactors roads and bridges involve risks to life risk benefit analysis assesses the costs and benefits of these projects by an extension of the well known willingness to pay compensating variation criterion to these situations see mishan i982 or jones lee i976 the approach taken is an ex ante one looking at people s expected utility or a substitute before deaths occur rather than a measure of actual ex post welfare losses and gains a good case can be made against these ex ante decision rules see broome i978 hammond i983 or ulph i982 but we do not consider it in this paper even in the ex ante setting however the willingness to pay measures used in risk benefit analysis may not be consistent with individual welfare these difficulties are surveyed by arrow i983 experimental evidence shows that individuals do not update their subjective probabilities in a way that is consistent with bayes theorem preference reversal willingness to pay is opposite to stated preferences occurs and choices depend on the way in which alternatives are described framing as serious as these problems are we address in this paper the question of the consistency of risk benefit tests even when individuals are rational and perfectly informed subjective and objective probabilities coincide and compensating or equivalent variations are summed across individuals to provide a social riskbenefit test we investigate the conditions under which these tests provide orderings of all the social alternatives thus avoiding inconsistent social preferences for example alternative x preferred to alternative y and y to x or x preferred to y y preferred to z and z preferred to x we require individual preferences to be consistent in the sense of hicks and allais utility depends on the probability of being alive and on consumption enjoyed while alive and consider as well the special case of the expected utility hypothesis we show that in a simple one good model section i both compensating and equivalent variations are exact indexes of individual welfare gain or loss accepting a project if and only if the sum of compensating variations is positive is equivalent in this model only to the ex ante potential pareto improvement criterion for project acceptance lemma i argues that the compensating variation or equivalent variation

misperceived job hazards and welfare abstract bayesian workers produce chemicals hazardously in one sector of a two sector economy having one safe sector adopting an expected ex post welfare perspective we show workers misperceptions of hazards entail a classic externality we characterise chemicals competitive monopoly and socially efficient outputs assuming workers receive identical wage accident compensation contracts under each the value of information which induces workers to place greater stress on firms safety records or sharpens their priors and extend the standard monopoly welfare loss index for sufficient conditions for monopoly to be preferred to competition in chemicals and for size ranking monopoly and efficient chemical outputs

ozone pollution and farm profits in england and wales tropospheric ozone is an air pollutant known to adversely affect crop yields across europe experimental work is underway to quantify yield effects at ambient ozone levels for a number of crops in this article we undertake direct farm level evaluation of the impact of ozone by estimating a multi output profit function using a panel dataset of cereal farms in england and wales a system of equations comprising the profit function input and output share equations is estimated using a fixed effects seemingly unrelated regression technique with ozone as a quasi fixed input estimated parameters are used to calculate tropospheric ozone related profit and output supply elasticities the main findings from the profit function show that a 10 increase in average ozone levels would decrease variable profits by 1 3 and wheat output supply by 1 these results are of a significantly lower magnitude but qualitatively consistent with findings from similar studies carried out in north america

health utility indices and equity considerations the aim of this paper is to propose methods that incorporate equity concerns into cost utility analysis the focus of the paper is on qalys but the results apply to health utility indices in general two interpretations of qalys are considered qalys as von neumann morgenstern utilities and qalys as measures of health a justification is provided for aggregating consistently scaled qalys as utilities over individuals the conditions underlying unweighted aggregation of qalys are identified these conditions exclude two common types of equity concern algorithms are proposed that take into account equity concerns and that are relatively easy to apply

equity considerations in utility based measures of health outcomes in economic appraisals an adjustment algorithm in this paper we consider whether methods currently used to measure utility of health outcomes are consistent with the equity criteria adopted by researchers we show that unless the chosen equity criterion is incorporated in the design of the measurement instrument the derived health state utilities are inconsistent with the equity criterion except under special circumstances adjustment algorithms are derived based on the axioms of von neumann morgenstern utility theory which take account of difference equity criteria currently adopted in the literature the proposed approach is based on simple lottery questions of the type already used widely in empirical studies

the role of ex ante and ex post decisions in the valuation of life abstract this paper examines the use of ex ante and ex post criteria in the evaluation of projects involving the risk of death one issue concerns the appropriate welfare function and it is argued that this should reflect both ex post and ex ante considerations but not in the form of restrictions on the welfare function the second issue concerns the form of compensation the argument in favour of ex post compensation as a means of reducing the cost of risk bearing needs to be modified when risks involve more than a single dimension as they do in projects involving the risk of death

transactions data tests of efficiency of the chicago board options exchange abstract this paper performs lower boundary condition tests based on rational pricing of call options and an implied standard deviation test based on the bid ask prices of options these efficiency tests attempt to closely approximate conditions in the option markets to avoid the pitfalls indicated by phillips and smith 1980 the tests use transactions data and account for the effects of stock and option bid ask prices simultaneity of stock and option prices depth of market execution lag and transaction costs the small and relatively infrequent profits due to market mispricing disappear in the lower boundary tests when transaction costs are taken into account frequent violations of the tighter boundary conditions in the implied standard deviation test are reported but the estimated profits cannot be unambiguously attributed to option market inefficiency

valuing amenity resources under uncertainty a skeptical view of recent resolutions abstract this paper questions colby and cory s recent characterization 1987 1988 1989 of the appropriate benefit measures to be used to value improvements in the quantity quality or conditions of access to environmental resources under uncertainty the paper uses graham s 1981 analysis of individual and aggregate welfare measurement under uncertainty to demonstrate the problems with colby and cory s recommendations it evaluates their classification of important research issues and summarizes in general terms the difficulties that arise in the practical implementation of the conceptual measures for benefits under uncertainty

the social value of mortality risk reduction vsl vs the social welfare function approach we examine how different welfarist frameworks evaluate the social value of mortality risk reduction these frameworks include classical distributively unweighted cost benefit analysis i e the value per statistical life vsl approach and various social welfare functions swfs the swfs are either utilitarian or prioritarian applied to policy choice under risk in either an ex post or ex ante manner we examine the conditions on individual utility and on the swf under which these frameworks display sensitivity to wealth and to baseline risk moreover we discuss whether these frameworks satisfy related properties that have received some attention in the literature namely equal value of risk reduction preference for risk equity and catastrophe aversion we show that the particular manner in which vsl ranks risk reduction measures is not necessarily shared by other welfarist frameworks jel d81 d61 d63 q51

uncertainty benefit cost analysis and the treatment of option value abstract this paper proposes a new conceptual framework for defining welfare measures under uncertainty the planned expenditure function this function describes the locus of expenditures on contingent claims that are required to realize a given level of expected utility to illustrate the convenience of the framework it is used to consider the definition of the option price the appropriate treatment of option value the valuation of risk changes and the definition of non use benefits under uncertainty

a risk return model with risk and return measured as deviations from a target return two attribute risk and return models are very popular in the economics and finance literature for analyzing decisions under uncertainty their popularity stems primarily from the intuitive appeal of the dichotomy into risk and return and from the ease with which the concepts can be diagrammed in two dimensions the most commonly used risk return model is the mean variance model in which risk is measured as the variance and return by the mean of the probability distribution over outcomes the mean variance model has a number of shortcomings which are widely known but of particular concern here are the facts that 1 mean variance dominance is neither necessary nor sufficient for second degree stochastic dominance 2 unless the form of the probability distribution is restricted mean variance is consistent with von neumann morgenstern utility theory only if the utility function is quadratic and 3 as peter fishburn has noted

the choice of a welfare measure under uncertainty use of option price as a welfare measure when conducting a benefit cost analysis under uncertainty is appropriate only if the project under consideration will have no impact on the allocation of risk among individuals use of the willingness to pay locus as a benefit measure is appropriate only if the project will result in an efficient allocation of risk a more general welfare measure is proposed maximum agreeable payment that correctly measures the benefits and costs of any project

valuation of american call options on dividend paying stocks empirical tests abstract this paper examines the pricing performance of the valuation equation for american call options on stocks with known dividends and compares it with two suggested approximation methods the approximation obtained by substituting the stock price net of the present value of the escrowed dividends into the black scholes model is shown to induce spurious correlation between prediction error and 1 the standard deviation of stock return 2 the degree to which the option is in the money or out of the money 3 the probability of early exercise 4 the time to expiration of the option and 5 the dividend yield of the stock a new method of examining option market efficiency is developed and tested

on welfare analysis under temporal uncertainty the implications of uncertainty for costbenefit analysis remain controversial one issue raised in the evaluation of welfare compensation tests has been the appropriate use of observable economic behavior in the measurement of agents willingnessto pay or willingness to receive in the context of surplus measure this question has received considerable attention in the analysis of the welfare impact of price changes under certainty e g willig 1976 chipman and moore 1980 hausman 1981 mckenzie and pearce 1982 moreover the introduction of uncertainty has raised a number of questions about the appropriateness of alternative welfare measures e g schmalensee 1972 1975 graham 1981 for example graham 1981 has argued that there is little basis to recommend either option price or expected surplus for a role of prominence in welfare analysis the issue rather is whether or not there exists a distribution of individual payments or receipts that maximizes aggregate willingness to pay and passes the pareto improvement test i e that leaves no individual worse off and makes at least one individual better off graham 1981 but in the implementation of the pareto improvement test how is the aggregate willingness topay supposed to be measured empirically more specifically what is the influence of uncertainty and its temporal resolution on the validity of agent surplus the welfare triangle given by the area between a compensated choice function and its corresponding price as a welfare measure some progress has been made in this direction by chavas bishop and segerson 1986 in the context of option price however as shown by graham 1981 while option price is the appropriate measure of benefits in situations involving similar individuals and collective risk it may not be the appropriate welfare measure in more general situations therefore there is a need to refine our understanding of how agent surplus can be used as a welfare measure in the general context of a potential pareto improvement test under temporal uncertainty the objective of this paper is to investigate how temporal uncertainty can affect the measurement of willingness to pay in general welfare compensation tests temporal uncertainty corresponds to the situation where new information becomes available over time which resolves at least part of current uncertainty facing economic agents this new information can influence future individual decisions as well as individual willingness to pay particular attention will be given here to the case where income compensation is conditional on the new information that will become available in the future and results in a more efficient allocation of risk among individuals this paper focuses on competitive agents e g households or firms for which welfare changes can be expressed in terms of price changes this includes the analysis of the welfare effects of various government pricing policies this also includes the evaluation of public projects based on the travel cost method which under a weak complementarity condition consists in using price changes of related private goods as an indirect means of measuring the value of a public project maler 1974 the analysis is presented in the context of a general two period model where the agents are uncertain about the state of the world as suggested by graham 1981 it is shown that the option price provides a lower bound on