Hedging against one default type can worsen losses when a different form materializes

Evidence

True, some investors in ruble-denominated bonds had hedged against the risk of Russia defaulting by short-selling Russian hardcurrency bonds (Shleifer 2000, p. 108). For those investors, however, even the good news of August 17 Russia’s avoidance of a hard-currency default was damaging, because it meant their hedge failed to protect them to the extent it should have. — Donald MacKenzie, An Engine, Not a Camera, 1036

Categorization

• XREF: A concrete case of unintended hedge failure — echoes the book’s central thesis about financial models’ blind spots and connects to wider literature on hedging tail risks. — connects to: Black-Scholes delta hedging fails when indices jump discontinuously or volatility spikes — Donald MacKenzie, An Engine, Not a Camera: How Financial…, 924; Hedge funds now increase risk rather than hedging it as originally intended — Andrew deWaard, Derivative Media: How Wall Street…, 142; Debt securitization compounded risk instead of dispersing it. — Yanis Varoufakis, Technofeudalism: What Killed Capitalism, 182

Broader Connections

• Black-Scholes delta hedging fails when indices jump discontinuously or volatility spikes #exemplifies (0.85) — Donald MacKenzie, An Engine, Not a Camera, 924
• Hedge funds now increase risk rather than hedging it as originally intended #expands (0.78) — Andrew deWaard, Derivative Media, 142