Climate, politics, and changing consumer needs all contribute to supply and demand for commodities such as wheat, corn, and others. Changes in these significantly affect the agricultural commodity market and the way grains are traded is key to managing these price fluctuations and providing global reference prices.
Grain futures and grain forwards are similar in that they both allow buyers and sellers to agree on a price for a certain amount of grain at a future date. However, there are a few key differences between the two.
First, grain futures contracts are standardized contracts traded on organized exchanges. They have a fixed quantity, quality and standard delivery date to a specific location.
On the other hand, grain forward contracts are usually customized contracts negotiated directly between buyers and sellers. This allows each party to be more flexible in terms of quantity, quality and terms of delivery.
Grain futures contracts trade on organized exchanges, making them highly liquid. In contrast, grain forward contracts are usually bilateral between two parties. This can make it nearly impossible to liquidate or transfer ownership to a third party willing to agree to any custom terms.
This standardization may not always be bad for the buyer. While futures contracts usually require participants to post a certain margin to cover potential losses, grain forward contracts may not. Instead, both parties can come up with a specific credit agreement.
Finally, grain futures contracts are usually cash-settled. Physical delivery of grain under a futures contract is rare. Meanwhile, grain forward contracts often include physical delivery of the grain, which may create additional logistical and financial risks. This creates a very niche type of contract that only those willing to deliver or receive grain should consider.
In general, hedging with futures can help the prospective buyer or seller of grain because it can help them protect themselves from adverse price movements.
Futures hedging can help determine an approximate price range months before the actual physical purchase or sale.
This is possible because the cash and futures markets tend to move in tandem, and gains in one market could offset losses in another.
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