COMMODITY TRADING
is greater than that which would be required to cover cash storage costs by an amount large enough to offset the additional risk involved.” “The over-all shape of the supply
curve of storage for a wide range of commodities [based on empirical studies] has fallen into the pattern shown in …” Figure 2, according to Cootner (1961). This graph illustrates that greater can
inventories be held, when
hedged, without requiring expected future price increases. The 1996 book, The Great
Wave: Price Revolutions and the Rhythm of History, discusses European history since the 1200s. Broadly speaking, past eras of grain price inflations, whatever the cause, resulted in devastating civilizational consequences. Figure 3 illustrates past eras of grain price
Figure 2: Supply Curve of Storage
Expected Price Less Present Price
Risk Premium Inventories
Supply Curve of Unhedged Inventory Supply Curve of Hedged Inventory
Source: Cootner (1961), Figure 1b.
Figure 3: The Price of Grain in Western Europe The Abel Series, 1201 – 1960
250
Grams of pure silver Per 100 kilograms of grain
The 18th Century Price Revolution
200
The 20th Century Price Revolution
The 16thCentury Price Revolution
150
The Medieval Price Revolution
100 50
inflations. Over the centuries, two innovations have lessened these tragic episodes: international trade and the increase in inventory holdings. Commodity futures markets are a trial- and-error development that serves the latter civilizational advancement. If the existence of price-risk-bearing specialists ultimately enables more inventories to be created and held than otherwise would be the case, we would expect their existence to lead to the lessening of price volatility. To be clear, why would this be the case? The more speculators there are, the more opportunity there is for commercial hedgers to find a natural other side for hedging prohibitively expensive inventories. This in turn means that more inventories can be economically held. Then with more inventories, if there is unexpected demand, one can draw from inventories to meet demand, rather than have prices spike higher to ration demand. This is one of the key lines of logic in discussing the economic function of futures markets and the role of speculators, especially when there is controversy over these market institutions.
England France
Germany Italy
0 1201 1301 1401 1501 1601 1701 1801 1901 Graph based on Fischer (1996), Figure 0.02. According to Fischer, this figure
“represents decennial movements in the price of grain … from 1201 to 1960. It includes wheat in England, France, and Italy; and rye … in Germany. Prices are decennial means, converted to silver equivalents (grams of pure silver per 100 kilograms of grain).
The source [of this data, in turn] is [from] Wilhelm Abel, Agrarkrisen und
Agrarkonjunktur : Eine Geschichte der Land- und Ernährungswirtschaft Mitteleuropas seit dem hohen Mittelalter (1935; Hamburg and Berlin, 1966).”
34 March 2013
Increased Correlation of Commodity Prices With Financial Asset Prices Since 2008, commodity market
participants have faced a challenging new risk environment. Specifically, commodity markets have become more highly correlated with equities since the second half of 2008. Figure 4 graphically illustrates this increased correlation. Market practitioners are well aware of the increase in correlations across all asset classes,
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