How the maize market functions
AT GRAIN SA
This marks the final article of a four-part series that attempts to explore the fundamental factors that have an impact on the maize market. In this article the various participants and their roles as well as the importance of information on the market will be discussed.
HEDGERS AND SPECULATORS
In a derivatives market, there are various participants, namely hedgers (those wishing to manage price risk) and speculators (those prepared to take on risk to make a profit).
Speculators are necessary to the efficient functioning of a market in that they provide added liquidity to the market and added opportunity for hedgers to lay off risk. Trading liquidity is very important to ensure that a futures market can perform its functions of price risk management and transfer. Liquid contracts (high volumes traded on the contract) ensure that the price truly reflects the consensus of a large number of buyers and sellers. It also allows market participants to easily enter into or close a derivatives position.
The essential characteristic of a liquid market is that there are ready and willing buyers and sellers at all times. However, there is no assurance that a liquid market may exist for offsetting a commodity contract at all times. Some futures contracts and specific delivery months tend to have increasingly more trading activity and have higher liquidity than others.
Speculators are key contributors to the liquidity of a market or asset. They are individuals or institutions that seek to profit from anticipated increases or decreases in a particular market price. By doing this, they provide the capital needed to facilitate liquidity.
As we have established in this series, prices on a commodity derivatives market are determined by the interpretation of the information available to the market at any given point in time, based on the principle of willing buyer, willing seller.
Futures prices are discovered through a continuous worldwide flow of information that influences both the current and future supply and demand expectations of the buyer and seller. Adequate market information is one of the key contributing factors to reduce uncertainty and creates transparency for a favourable environment to operate.
Traders and speculators are sensitive towards the release of new information; this includes both national and international reports, like the Crop Estimates Committee report and the World Agricultural Supply and Demand report, which plays an important role in trader decision making in the South African maize futures market.
The impact can be observed by the significant volatility changes in the futures market before the report dates for the respective local and international reports. The price of grain, particularly that of white maize, on the South African commodity derivatives market is determined by the interpretation of the information related to the following factors:
- Expected rainfall.
- Domestic supply and demand situation.
- Regional supply and demand situation.
- International supply and demand situation and international prices.
- The exchange rate.
In conclusion, having speculators on the market creates liquidity and the availability of information allows the playing field to be level for all role-players and reduces opportunities for manipulating prices. The availability of information aids producers in decision-making – that is what to plant or marketing strategy. It helps one understand or even pre-empt volatility on the market.
Publication: June 2021