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What is basis risk?

Basis risk is the risk associated with imperfect hedging as a result of either 1) differences between the price of the asset being hedged (farmers cattle) and the asset underlying the futures contract (live cattle futures), or 2) differences in the time of sale of the asset being hedged and the expiry of the futures contract, which is known as calendar basis risk, or 3) differences in the location of delivery and sale, which is known as locational basis risk.


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