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Finding one unit of oil and gold

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Hedging Motives

Imagine two companies, Oil Inc. and Gold Inc., which invest in exploration activities. The probability of ?nding one unit of oil and gold, respectively, is the same, but per-unit extraction costs are $50 for Oil and $5 for Gold. The market prices of a unit of oil and a unit of gold are both $100. Thus, the marginal pro?t to Oil from discovering one more unit of oil is 100 - 50 = $50, while the profit to Gold from discovering one more unit of gold is 100 - 5 = $95. Which ?rm, Oil or Gold, should hedge less? Why?

Reference no: EM133114471

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