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On Tue, 11 May 1999 08:45:31 +0100, you wrote:
>So, if commercials (i.e. farmers) want to protect themselves from the fall
>in price of the commodity (i.e. wheat) they will sell real commodity, and
>buy the future (i.e. wheat future).
Please correct me if I'm wrong...... BUT, if a 'farmer BUYS a future
today', to (as you claim) insure against a 'fall in price', THEN
wouldn't he BE A LOOSER both ways if the price does in-fact fall later
on??
> I would argue that:
(1) When the farmer sells his crop for a "SMALLER" price he looses,
and then (2) he has to sell the 'future' that he 'bought' (as you
claim) at a LOSS as well?!?!
> (future.. buy high, sell lower = loss)
On a positive note, if prices do in-fact RISE (in your example), he
would have a windfall on both sides.... crop sells for a higher price,
and his 'future' rises in price as well, so he eventually sells that
at a profit as well!!
I think what you REALLY meant to say was if the 'farmer' wants to
insure against a 'fall in price', then he would SELL a future TODAY,
hence locking in TODAY'S price for 'wheat'. SO, that in the event
that prices DO in-fact fall when his crop is ready to harvest/sell, he
makes up that LOSS with his offsetting GAIN on the futures contract
that he sold some time before!!
On the other side of the coin, if prices do in-fact RISE instead, his
unexpected windfall in the subsequent sale of his 'wheat' is
"unfortunately" offset by his LOSS on the futures contract because he
will now have to buy it back at an increased price!!
SO, this is how he locks in TODAY'S PRICE, so that he and his family
can guarantee there existence for that growing season....
Unfortunately, NO great windfalls to the farmer if 'wheat' rises
drastically..... BUT, on the other hand, there will be NO unexpected
losses due to the sudden fall in 'wheat' prices either!!
I tell you this, because this is how my grandfather used to hedge his
crop of 'corn' each year!! Trust me, it's still not an exact
science.... because it doesn't take into account any reduction in crop
size!! But that's another story all together!!!
>Opposite will apply to the consumers
>(i.e. grain elevators). They will want to protect themselves against rise in
>prices, so they will buy the real commodity, and sell the future.
And the 'grain elevators' will do just the opposite of the farmer....
as explained above!
I'm not too sure that the example of a 'grain elevator' is necessarily
"opposite" that of a farmer?? I would have considered them as part of
the production side vs. the consumption side?? I'm not too sure about
there position??
> IN SUMMARY:
(farmers would SELL the future, to LOCK-IN today's HIGHer relative
price to insure against a FALL in PRICE)
(consumers [ie. food producers] would BUY the future, to LOCK-IN
today's LOWer relative price to insure against a RISE in PRICE)
Hope that explains the process a little better......
either that or I confused you even that much more?!?!
JMB
TraderGuy@xxxxxxx
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