Question

Assume a barley producer wishes to develop a hedging strategy for the sale of 100,000 tonnes of Eastern Australian Feed Barley. Using current information about future prices from the ASX explain some of the strategies available to the producer and how the use of futures can mitigate against risk.

Current spot price $358

Futures price $292 JAN 20

$296 March 2020

Answer 1

Barley producer wants to develop a hedging strategy for sale of 100,000 tonnes of Barley. Current spot price is USD 358 which we assume is per tonne rate.

Future Price - Jan 20 futures $ 292
March 20 futures $ 296

When we see future price we see that future price is much lower then current price of barley.

So producer is exposed to risk if price reduces further and fall below its production cost.
In order to reduce risk he should enter sale future contract at the current future price in order to fix the price he will receieve on maturity of contract.

For hedging the risk, producer should enter sell future contract, whether Jan or March futures depends on his risk taking capacity, shelf life of barley etc.

Now what quantity he intends to hedge depends on his risk taking ability, if he wants to fully hedge then he should enter sell future contract for entire 100,000 tonnes.
If he is of view that price can increase in future he can partially hedge by selling the future for appropriate quantity.
If he wants to bear the risk, he can bear the risk by not hedging and accepting price available at the time of sale.