Teaching Activity Grain Price Hedging Basics

Ag Decision Maker Activity File A2-60 Grain Price Hedging Basics

Name ______

Using File A2-60, answer the questions below.

In the problems below assume there is no trading cost or interest on margin money.

1) Hedging is defined as taking ______but ______positions in the cash and futures market.

2) The term basis refers to the ______between local cash price and the futures price.

3) Hedging can help establish a price either ______, ______or ______harvest.

4) A hedge is placed by a) buying b) selling futures.

5) A hedge is lifted by a) buying b) selling futures and simultaneously a) buying b) selling the cash grain.

6) If prices rise after a hedge is placed, the a) gain b) loss in the futures market is offset by the a) gain b) loss in the cash market. Ag Decision Maker Activity Continued…. File A2-60 Grain Price Hedging Basics

7) If prices decline after a hedge is placed, the a) gain b) loss in the futures market is offset by the a) gain b) loss in the cash market.

8) The problems above assume that the basis remains constant throughout the hedge period. If the basis narrows (becomes smaller) in Problem 6, the gain in the cash market is a) larger b) smaller than the loss in the futures market resulting in a net hedge price that is a) higher b) lower than the cash price when the hedge was placed.

9) If the basis widens (becomes larger) in Problem 7, the gain in the futures market is a) larger b) smaller than the loss in the cash market resulting in a net hedge price that is a) higher b) lower than the cash price when the hedge was placed.

10) If the basis widens (becomes larger) in Problem 7, the gain in the a) futures b) cash market will be less than the loss in the c) futures d) cash market resulting in a net hedge price that is c) higher d) lower than the cash price when the hedge was placed. Ag Decision Maker Activity Continued…. File A2-60 Grain Price Hedging Basics

10) A margin call (payment of additional margin money) is a a) cash expenditure b) futures loss c) net hedge loss

11) If you have grain in storage for which you have not established a price, you are considered to be a) long b) short the cash market.

12) If you enter the futures market by selling futures, you are a) long b) short the futures market.

13) Assuming a fee of 1 cent per bushel for each transaction of buying and selling the futures contract, an initial margin deposit of 20 cents per bushel, and all of the price rise occurred on June 1; enter the income or cost per bushel associated with the futures and cash market transactions occurring during each of the time periods. Calculate the net return per bushel for each time period and each type (futures and cash) of transaction. The overall net is the net price received for the corn.

Assume

Date Futures Price Cash Price May 1 $5.00 $4.70 August 1 5.50 5.20 December 1 5.50 5.20

Futures Cash Net May 1 (place hedge) ______August 1 ______December 1 (lift hedge) ______Net ______Ag Decision Maker Activity Continued…. File A2-60 Grain Price Hedging Basics

14) Based on the information in question 13, what is the interest cost on the initial and additional margin money if the interest rate is 1 percent per month?

. . . and justice for all The U.S. Department of Agriculture (USDA) prohibits discrimination in all its programs and activities on the basis of race, color, national origin, gender, religion, age, disability, political beliefs, sexual orientation, and marital or family status. (Not all prohibited bases apply to all programs.) Many materials can be made available in alternative formats for ADA clients. To file a complaint of discrimination, write USDA, Office of Civil Rights, Room 326-W, Whitten Building, 14th and Independence Avenue, SW, Washington, DC 20250-9410 or call 202-720-5964. Issued in furtherance of Cooperative Extension work, Acts of May 8 and June 30, 1914, in cooperation with the U.S. Department of Agriculture. Jack M. Payne, director, Cooperative Extension Service, Iowa State University of Science and Technology, Ames, Iowa.