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B. Venkatesh

ALL of us face the risk of declining cash flows. Our cash flow comprises salary or business income and income from investments. You can hedge your investment risk through derivatives such as index futures and equity options.

What about the decline in salary income? Many tech professionals may have faced this problem in 2000 when companies cut salaries because of poor economic growth.

Professor Robert Shiller of Yale University has proposed a market that could provide hedging opportunities for such risk. He calls it the macro markets. This is essentially a market where people can buy and sell contracts based on a country's GDP. Why GDP?

Your salary income is based on how well your company does. Your company is part of an industry, which is part of the economy. On an average, your company will perform well only if the economy does well.

So, the contract in a macro market is based on the country's GDP. This contract will provide the holder a share of the GDP just like a stock provides its holder a share of a company's dividends.

The objective is to hedge salary risk. Hedging means taking a contrary position in one market to the one you already have in the other market.

If you live in India, you are exposed to its country risk. You should, therefore, sell contracts relating to India's GDP. You should also buy contracts of other countries in the same proportion that each country's GDP has to the world GDP.

You have long exposure in India because of your salary income. You also have a corresponding short position on India because you have sold a contract in the macro market. That neutralises the cash flows on India. But you are also long on global GDP. So, your salary will be the average global income.

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