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The Optimal Amount of Insurance

Our reading today took us to a speech made by current Fed Chairman Ben Bernanke, delivered back when he was a Fed Governor. As part of his analysis, he noted the following:

…it is rarely the case in economics that the optimal amount of insurance in any situation is zero.

Now Bernanke was not speaking about fuel hedging, but he could have been. It is as easy as one, two, three…

1. Surging fuel prices are a threat to the budgets of many businesses.
2. Insurance, in the form of simple hedging plans, is available.
3. There is an optimal amount of this insurance for each company….

…and that amount is not zero!

Fuel managers and CFO’s who do not yet have a hedging plan sometimes worry that they are “too late” to act. Bernanke’s sound economic principle would suggest doing something ….just get started. It is not the manager’s job to guess the future direction of energy prices any more than it would be to guess if and when there might be a fire.

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