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REVIEW OF FUTURES MARKETS

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CHARTERED BY THE STATE OF ILLINOIS IN 1859 ... CORN = CHICAGO OR TOLEDO. STANDARD DELIVERY TIMES. CORN = DECEMBER, MARCH. MAY, JULY, SEPTEMBER ... – PowerPoint PPT presentation

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Title: REVIEW OF FUTURES MARKETS


1
  • REVIEW OF FUTURES MARKETS

2
  • FUTURES CONTRACTS ARE TRADED ON ORGANIZED
    EXCHANGES
  • Chicago Board of Trade (CBOT)
  • Chicago Mercantile Exchange (CME)

3
THE EVOLUTION OF AN EXCHANGE
  • CHICAGO BOARD OF TRADE

4
  • WHY CHICAGO?

5
  • WHY CHICAGO?
  • LOCATION

6
  • WHY CHICAGO?

WATER TRANSPORT
7
  • WHY CHICAGO?

WATER TRANSPORT RAIL ROAD DEVELOPMENT
8
  • WHY CHICAGO?

WATER TRANSPORT RAIL ROAD DEVELOPMENT LOCATION
NEAR AGRICULTURAL LAND
9
  • OPENING OF THE ILLINOIS-MICHIGAN CANAL
  • IN 1848

10
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11
  • GROWTH OF POPULATION ON EAST COAST

12
  • BEGINNING OF EUROPEAN DEMAND FOR GRAIN
  • (CRIMEAN WAR)

13
  • WAR BETWEEN THE STATES

14
  • FOUNDED IN 1848
  • CHARTERED BY THE STATE OF ILLINOIS IN 1859

15
  • IN 1865 CONTRACTS ARE FORMALIZED INTO WHAT IS NOW
    CALLED FUTURES CONTRACTS.

16
  • IN 1885 THE CBOT MOVES TO ITS CURRENT LOCATION AT
    THE CORNER OF LASALLE STREET AND JACKSON

17
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18
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19
  • THE EXCHANGE WAS ORGANIZED AS A NOT FOR PROFIT
    MEMBERSHIP ASSOCIATION, IN OCTOBER OF 2005 IT WAS
    REORGANIZED AS A FOR PROFIT PUBLICLY TRADED
    COMPANY.
  • The CBOT was purchased by the CME in 2007.

20
What is being traded?Standardized Futures
Contracts
21
  • STANDARDIZED CONTRACTS
  • GRAINS 5000 BUSHELS
  • SBM 100 TONS
  • SBO 60,000 LBS

22
  • STANDARD QUALITY
  • CORN 2 YELLOW

23
  • DELIVERY LOCATION
  • CORN CHICAGO OR TOLEDO

24
  • STANDARD DELIVERY TIMES
  • CORN DECEMBER, MARCH
  • MAY, JULY, SEPTEMBER
  • WHEAT THE SAME AS CORN

25
  • SOYBEAN DELIVERY MONTHS NOV, JAN, MARCH, MAY,
    JULY, AUGUST, SEPTEMBER

26
  • Why not every month of the year?
  • Liquidity -- Need to make sure the volume is
    sufficient to allow for efficient trading.

27
Three Important Functions of a Commodity Futures
Market
28
FUNCTIONS
  • Price Discovery
  • Competitive market environment
  • Access to information
  • Incentive to do a good job

29
FUNCTIONS
  • Price Discovery
  • Price Risk Management
  • Inventory and unknown and variable prices
  • Hedging price risk
  • Temporary substitute for a future cash transaction

30
FUNCTIONS
  • Price Discovery
  • Price Risk Management
  • Provide a Speculative Medium

31
SPECULATION
  • BUY LOW
  • SELL HIGH
  • Speculation vs Gambling

32
  • THE ACCOUNTING PROCESS

Agricultural Group
MARGIN MONEY -- PERFORMANCE BOND -- A FRACTION OF
THE VALUE OF THE CONTRACT
33
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34
  • THE ACCOUNTING PROCESS

MARGIN MONEY -- PERFORMANCE BOND -- A FRACTION OF
THE VALUE OF THE CONTRACT IF THE MARKET MOVES
AGAINST THE TRADER -- MORE MARGIN IS REQUIRED
35
  • THE ACCOUNTING PROCESS

MARGIN MONEY -- PERFORMANCE BOND -- A FRACTION OF
THE VALUE OF THE CONTRACT IF THE MARKET MOVES
AGAINST THE TRADER -- MORE MARGIN IS
REQUIRED MINIMUM INITIAL MARGINS ARE SET BY THE
EXCHANGES
36
  • THE ACCOUNTING PROCESS

MAINTENANCE MARGIN IF EQUITY LEVEL DROPS BELOW
A CERTAIN AMOUNT MORE FUNDS MUST BE DEPOSITED
37
  • THE TRADING IS CONDUCTED IN "PITS" AND BY OPEN
    OUTCRY.

38
  • EACH BID AND OFFER IS AVAILABLE TO ALL TRADERS

39
  • A SET OF HAND SIGNALS HAS BEEN DEVELOPED.

40
  • HEDGING--
  • TAKE OPPOSITE POSITION IN FUTURES AS YOU HAVE IN
    CASH

41
  • HEDGING
  • GAIN OR LOSS IN FUTURES WILL OFFSET GAIN OR LOSS
    IN CASH

42
  • PRICES FOR CORN
  • CASH PRICE AT
  • HEYWORTH, ILL 3.40
  • MAY FUTURES 3.64
  • JULY FUTURES 3.75

43
  • WHY THE PRICE DIFFERENCES?
  • 1) LOCATION
  • 2) TIME
  • 3) QUALITY
  • 4) LOCAL SUPPLY AND DEMAND CONDITIONS

44
  • BASIS CASH PRICE - FUTURES PRICE

45
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46
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47
  • PRICE DIFFERENCES OVER TIME ARE ACCOUNTED FOR BY
    STORAGE COST.
  • (COST OF CARRY)

48
  • STORAGE COST FOR GRAIN
  • PHYSICAL COST
  • FINANCIAL COST

49
  • HEDGING
  • TAKE AN OPPOSITE POSITION IN FUTURES AS YOU HAVE
    IN CASH
  • PROTECTION FROM PRICE LEVEL CHANGES

50
  • LOCALIZED FUTURES PRICE

FUTURES PRICE MINUS ANTICIPATED BASIS
51
  • EXAMPLE
  • JULY CORN 2.44/BU
  • LOCAL BASIS IN JUNE - .15/BU
  • LFP 2.29/BU

52
  • Simple example of producer pricing a stored crop.
  • Sell July futures at 2.44/bu
  • on Oct 13.
  • On June 15, the price has declined to 2.21/bu
    and the cash price is 2.06/bu

53
Cash
Futures
Sell July Corn _at_ 2.44
Oct. 13
54
Cash
Futures
Sell July Corn _at_ 2.44
Oct. 13
Sell Cash Corn _at_ 2.06
June 15
Buy July Corn _at_ 2.21
_______ .23
Net Price 2.06 .23 2.29
55
  • The producer receives the cash price plus or
    minus the gain or loss from the futures contract.

56
  • 2.06/bu .23/bu 2.29/bu

57
PRICE A GROWING CROPLOOK AT DEC FUTURES
ADD(SUBTRACT) HARVEST BASIS
58
Currently December, 2006 Corn is trading at about
2.45/bu.Assume that your harvest basis is
normally about - .20/bu.Your localized
futures price is 2.25/bu.
59
To establish this price you would call your
broker and sell December futures.Then when the
physical corn is sold you buy back the futures
contract.
60
The net price you receive is the cash price plus
or minus the gain or loss in the futures
market.If December corn is 2.15/bu and basis
is -.20/bu thenCash 1.95 .30 (futures
gain) 2.25/bu
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