14.2 The Economic Function of Futures Markets The futures markets facilitate the re-allocation of exposure to commodity price risk among market participants But: .THE COURSE OF FINANCE 2017 SPRING SJTU 6
14.2 The Economic Function of Futures Markets The futures markets facilitate the re-allocation of exposure to commodity price risk among market participants But:
by providing a means to hedge the price risk associated with storing a commodity,futures contracts make it possible to separate the decision of whether to physically store a commodity from the decision to have financial exposure to price changes .THE COURSE OF FINANCE 2017 SPRING SJTU ●7
by providing a means to hedge the price risk associated with storing a commodity, futures contracts make it possible to separate the decision of whether to physically store a commodity from the decision to have financial exposure to price changes
The Economic Function of Futures Markets (Continued) A distributor,j,may hedge by selling the commodity on the spot market now at a price s selling short a futures contract at a price F and deliver the commodity at a specified time in the future there will be a carrying cost cj for distributor j,and she will store only if Cj<F-S .THE COURSE OF FINANCE 2017 SPRING SJTU ●8
The Economic Function of Futures Markets (Continued) A distributor, j, may hedge by selling the commodity on the spot market now at a price S selling short a futures contract at a price F and deliver the commodity at a specified time in the future there will be a carrying cost Cj for distributor j, and she will store only if Cj < F - S
The Economic Function of Futures Markets (Continued) The difference between the futures price and the spot price,F-S,is called the spread,and governs how much wheat will be stored,and by whom .THE COURSE OF FINANCE 2017 SPRING SJTU 9
The Economic Function of Futures Markets (Continued) The difference between the futures price and the spot price, F - S, is called the spread, and governs how much wheat will be stored, and by whom
The Economic Function of Futures Markets (Continued) Suppose the commodity is wheat,and next year's crop is expected to be much higher than average,then futures prices may be lower than the spot,(the spread may be negative,nobody will store wheat .THE COURSE OF FINANCE 2017 SPRING SJTU 10
The Economic Function of Futures Markets (Continued) Suppose the commodity is wheat, and next year’s crop is expected to be much higher than average, then futures prices may be lower than the spot, (the spread may be negative,) nobody will store wheat