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The JSE traded 2, 1 million commodity derivative contracts in 2010, a jump of 12% on the previous year, and a shade below the record 2, 5 million contracts traded in 2008.
White maize accounted for 46% of all grains traded on the Commodity Derivatives market, a division of the JSE. Wheat accounted for 27% of all grains traded and yellow maize 16%.
The JSE’s head of commodity derivatives, Rod Gravelet-Blondin, says the local commodity derivatives market continues to attract new participants eager to eliminate price risks in an increasingly volatile trading environment. “There is far greater understanding among farmers and millers of the uses of agricultural commodity derivatives as a tool to reduce price risk,” he says. “Because we are a physical delivery market, farmers can lock in prices at the start of a growing season by taking out agricultural commodity derivatives, so that no matter what happens in the course of the year, they will be able to get their Safex price provided they deliver grain to the quantity and quality specified.”
South Africa recorded a near record maize crop in excess of 12 million tons in 2010, helped by relatively strong prices at the start of the growing season, above average rainfall and better farming practices. Prices have since dropped by about 30% from a year ago, with white maize for delivery in July 2011 now trading at about R1400 a ton. An unusual feature of the current market is the fact that yellow maize, traditionally used as animal feed and historically trading at a discount to white maize, now trades at a R80 premium to white maize.
“This is because there was a large carry-over of white maize from the previous season, and export demand for South African maize is less buoyant due to improved yields coming out of countries like Zambia,” says Gravelet-Blondin. “Another factor contributing to the increase in size of the maize crop is the fact that we are now seeing yields of close to five tons per hectare, which is virtually double what we were seeing 10 or 15 years ago. This is due in part to biotechnology, but also to improved farming practices. South African commercial farmers are far more business-minded and professional than was the case 20 or 30 years ago.”
In the past government used to manage price risks for farmers and millers through price controls. When the agricultural markets were deregulated in the 1990s, government abandoned price controls and the risk passed to the farmers and users of product. Safex was launched in 1995 to provide agricultural commodity derivatives trading as a mechanism to address this price risk. It started out offering grain futures contracts, but has since expanded its range of traded instruments to include metals and oil.
The JSE’s Commodity Derivatives market currently offers grain trading in white and yellow maize, soya, sorghum, wheat and sunflower seed. Metals traded include gold, platinum, silver and copper. A crude oil derivative is also now available in the form of the Western Texas Intermediate (WTI), which is the world’s most traded commodity. “Most people believe Brent Crude Oil is the benchmark, and while it is a popular traded instrument, it is not as liquid as WTI.”
Grains are traded on a physical delivery basis, meaning any contract traded can result in physical delivery to a grain silo in South Africa. More recently, the JSE introduced cash-traded corn contracts, for which physical delivery is not required. These corn contracts are based on prices set by the Chicago Board of Trade, part of the largest commodities trading market in the world. US corn contracts are currently trading at a R450 premium to South African white maize. These contracts are pure financial instruments which makes them appealing to a broader range of market participants.
“The price of South African maize is often correlated to the international prices set in Chicago,” says Chris Sturgess, general manager at the JSE’s Commodity Derivatives market. “But South Africa maize prices fluctuate between import and export parity depending on whether there is a surplus or shortfall of maize. Many traders keep an eye on the spread between US corn prices and South African white maize and look for opportunities to profit from a widening or narrowing of this spread,” says Sturgess.
One of the uses of the WTI oil contract is that it allows companies to reduce their fossil fuel costs by buying WTI futures when prices are low. The difference between WTI and Brent is typically $3 to $4 a barrel. WTI contracts on the JSE are traded in rands rather than US dollars, providing greater price transparency for local companies. Should oil prices rise, companies will be able to offset higher fuel prices paid at the pump with profits made on the oil futures. “This is something we are encouraging local companies with high fuel bills to explore,” says Sturgess. “Fuel bills are rising sharply and companies are looking at ways to contain these costs. Trading in WTI futures or options is a very effective way of doing this. Companies can also reduce currency exposure through the JSE’s range of currency derivatives.”
Gravelet-Blondin says there is a greater level of sophistication among commodity derivatives traders seeking opportunities for hedging or profit. For example, it is possible to trade the difference between gold and platinum prices, on the basis that the two prices are correlated and any divergence in the spread provides an opportunity for profit.
In 2011, the JSE’s Commodity Derivatives market is planning to build on the successes of the past year. “We want to consolidate and build on what we already have,” says Gravelet-Blondin. “That means encouraging new market participants, and continuing to educate people in the benefits and advantages of commodity derivatives.”
