Why hedge? Extent, nature, and determinants of derivative usage in U.S. municipalities

• Main Authors: Khumawala, Saleha, RANASINGHE, Tharindra, YAN, Claire J.
• Format: text
• Language: English
• Published: Institutional Knowledge at Singapore Management University 2016
• Subjects: Accounting; Portfolio and Security Analysis
• Online Access: https://ink.library.smu.edu.sg/soa_research/1460; https://ink.library.smu.edu.sg/context/soa_research/article/2459/viewcontent/why_hedge.pdf
• Institution: Singapore Management University

Using a hand-collected dataset of over 300 observations of large U.S. cities and counties, this paper investigates the extent, nature and determinants of derivatives usage in the municipal sector. Over half of our sample entities engage in derivative transactions and a vast majority of these transactions are intended to manage interest rate risk. Swaps, by far, are the most popular derivative instrument. In terms of the determinants of derivative usage, we find that the propensity to use derivatives as well as the extent of derivative usage is higher for municipalities that are larger and more financially constrained. We do not find growth to be related to municipal derivative usage. Contrary to suggestions made in the popular press, we fail to find managerial opportunism to be a significant factor in municipal derivative usage. We also find that more sophisticated managers of large municipalities and less sophisticated managers of small municipalities are more likely to engage in derivative transactions.