Next Generation Contracts

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ECON 337:
Agricultural Marketing
Chad Hart
Assistant Professor
[email protected]
515-294-9911
Econ 337, Spring 2012
Today’s Topic
“New Generation” Contracts
Econ 337, Spring 2012
Contracting
Basic Hedge-to-Arrive
Basis
Deferred Price
Minimum Price
New Generation
Automated Pricing
Managed Hedging
Combination
Econ 337, Spring 2012
Hedge-to-Arrive
Allows producer to lock futures price, but
leaves the basis open
Basis is determined at a later date, prior to
delivery on the contract
So the producer still faces basis risk and
production risk (must produce enough crop
to cover the contract)
The buyer takes on the futures price risk
Econ 337, Spring 2012
Hedge-to-Arrive
Why might you use it?
Think basis will strengthen before delivery
For the producer, the gain/loss on the
contract is due to basis moves
Available in roll and non-roll varieties
Econ 337, Spring 2012
Basis Contract
Also known as a “fix price later” contract
Allows producer to lock in basis level, but
leaves futures price open
Producer still faces futures price risk and
production risk
Buyer takes on basis risk
Econ 337, Spring 2012
Basis Contract
Why might you use it?
Expect higher futures prices, but possibly
weaker basis
Example
On July 1, producer sells 5,000 bushels of corn
for November delivery at 20 cents under
December futures.
On Nov. 1, Dec. futures set the futures price
Econ 337, Spring 2012
Deferred Price Contract
Also known as “no price established”
contract
Allows producer to deliver crop without
setting sales price
Buyer takes delivery and charges fee for
allowing price deferral
Producer still faces all price risk and
production risk (if contract is set before
delivery)
Econ 337, Spring 2012
Deferred Price Contract
Producer also faces counterparty risk
If buyer files for bankruptcy, the producer
becomes an unsecured creditor
Why would you use it?
Believe market prices are on the rise
Takes care of storage
Allows producer to lock prices at a later time
Producer benefits from higher prices and
stronger basis, but risks lower prices and
weaker basis
Econ 337, Spring 2012
Minimum Price Contract
Allows producer to establish a minimum
price in exchange for a service fee and the
cost of an option
The final price is set later at the choice of
the producer
If prices are below the minimum price, the
producer gets the minimum price
If prices are above the minimum price, the
producer captures a higher price
Econ 337, Spring 2012
Minimum Price Contract
Removes downside price risk (below
minimum price) and allows upside potential
(after adjusting for fees)
Producer looking price increases to offset
fees
Provides some predictability in pricing, can
be set to be cash-flow needs
Econ 337, Spring 2012
New Generation Contracts
Ever evolving set of contracts established to
assist producers and users in marketing
crops
Structured to overcome marketing
challenges
Inability to follow through on marketings
Marketing decisions triggered by emotion
Complexities and costs of marketing tools
Econ 337, Spring 2012
New Generation Contracts
Often broken into three categories
Automated pricing
Managed hedging
Combination contracts
Offered by several companies, each with its
own twist on the contract
I will highlight some available contracts (for
illustrative purposes only, not an
endorsement
Econ 337, Spring 2012
New Generation Contracts
The contract follow predetermined pricing
rules
Often sold in set bushel increments, like
futures and options, with a specified
delivery period
Some have exit clauses (depending on
price)
Econ 337, Spring 2012
Automated Pricing
In its purest form, basically locks in an
average price by marketing equal amounts
of grain each period within a set time
Could be daily or weekly
Some contracts allow producers to pick the
pricing period
Can be combined with other pricing
approaches (minimum price, etc.)
Econ 337, Spring 2012
Automated Pricing
Examples
AgriVisor – Index
E-Markets – Market Index Forward
Cargill – PacerPro
CGB – Equalizer Classic
Variations
CGB – Equalizer Traditional
Cargill – PacerPro Ultra
E-Markets – Seasonal Index Forward
Econ 337, Spring 2012
Automated Pricing
$14.00
Price ($ per bu.)
$13.50
Pricing period: Jan. to Mar. 2012
on Nov. 2012 soybean futures
$13.00
$12.50
$12.00
1/
3/
20
1
1/
10 2
/2
1/ 012
17
/2
1/ 012
24
/2
1/ 012
31
/2
01
2
2/
7/
20
1
2/
14 2
/2
2/ 012
21
/2
2/ 012
28
/2
0
3/ 12
6/
2
3/ 012
13
/2
3/ 012
20
/2
3/ 012
27
/2
01
2
$11.50
Futures
Econ 337, Spring 2012
Automated Pricing
Automated Pricing
Advantages
Automates marketing decision, frees up
producer time
Removes concerns about additional costs
(margin calls)
Can be set to capture average price when
seasonal highs are usually hit
Econ 337, Spring 2012
Managed Hedging
Automated contracts that implement pricing
based on recommendations from market
analysts
Example
Cargill – MarketPros
Producers can choose to follow CargillPros or Kluis
Commodities recommendations
Econ 337, Spring 2012
Managed Hedging
Has many of the same advantages as
automated pricing
Results are dependent on the performance
of the market analysts
Often has higher fees than automated
pricing
Automated pricing: 3-5 cents/bushel
Managed hedging: 10-15 cents/bushel
Econ 337, Spring 2012
Combination Contracts
Extend or combine mechanisms from
various contracts
Averaging pricing
Minimum pricing
Pricing based on market movements
Opt-out clauses if prices fall significantly
Come in many varieties, so producers can
find one to fit their needs
Econ 337, Spring 2012
Cargill – DiversiPro
Price is set by formula
75% of the price is determined by the average
daily high futures price during a specified
pricing period
25% of the price is determined by the highest
price observed during the pricing period
Can be linked to a commitment to market
additional grain (the commitment reduces
the fee charged)
Source: http://www.cargillpropricing.com/contracts.html
Econ 337, Spring 2012
AgriVisor
Accelerator Pricing
Markets bushels when prices exceed a floor price,
but marketed quantities depend on price level
For example,
If the Nov. 2012 soybean
Then we market
price is
< $12.00
0 bushels per day
$12.00 to $13.00
100 bushels per day
$13.00 to $14.00
250 bushels per day
> $14.00
500 bushels per day
Econ 337, Spring 2012
Source:
http://www.agrivisor.com/Services/CrossoverSolutions.aspx
AgriVisor
Topper Pricing
Markets bushels when prices exceed a floor price
on days where prices have jumped sharply
Example: Markets bushels when prices exceed
$13.00/bushel on days where prices have
increased by at least 15 cents/bushel
Takes immediate advantage of market rallies
Econ 337, Spring 2012
Source:
http://www.agrivisor.com/Services/CrossoverSolutions.aspx
AgriVisor
Econ 337, Spring 2012
Source:
http://www.agrivisor.com/Services/CrossoverSolutions.aspx
AgriVisor
Econ 337, Spring 2012
Source:
http://www.agrivisor.com/Services/CrossoverSolutions.aspx
FC Stone
Accumulator Contract
Versions for producers and consumers
Key parameters:
Accumulator price – price grain is sold (or bought) at
Knockout price – price that terminates the contract
Weekly bushel sales commitment
Has acceleration function if price move beyond
accumulator price
Econ 337, Spring 2012
Source:
http://www.intlfcstone.com/commodities/grains/Pages/OriginationTools.aspx
FC Stone – Accumulator
Quantity marketed doubles
Normal quantity marketed
Contract ends
Econ 337, Spring 2012
Source:
http://www.intlfcstone.com/commodities/grains/Pages/OriginationTools.aspx
FC Stone – Consumer Accumulator
Contract ends
Normal quantity bought
Quantity bought doubles
Econ 337, Spring 2012
Source:
http://www.intlfcstone.com/commodities/grains/Pages/OriginationTools.aspx
Class web site:
http://www.econ.iastate.edu/~chart/Classes/econ337/
Spring2012/
Have a great weekend!
Econ 337, Spring 2012
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