A simple hedge substitution rule that dictates switching between Eurodollar and Treasury bill futures when hedging a short-term U.S. money market exposure would have enhanced hedge performance over the 1985-89 period. The rule involves comparing the difference between the rates on three-month Eurodollar and T-bill futures with the difference between the rates on the underlying cash instruments. Substantial differences are assumed to signal likely price moves and to identify the relatively expensive futures contract for sale or the relatively cheap contract for purchase.

Simulations using daily data from 1985 through 1989 give an indication of the performance of substitutions between Eurodollar futures and T-bill futures based on the simple trading rule. Hedgers following the trading rule would have realized incremental hedge profits of 5 to 7 basis points per substitution.