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The JSE commodity division has brought many derivatives instruments that provide participants with hedging instruments against price fluctuations in an open and transparent market. The JSE futures market enables investors to fix their price in advance by using futures contracts.
This means participants can determine the income they will receive for their produce with certainty. The derivatives contracts aim to support the growth of the South African agriculture industry. One such contract is the beef carcass future contract.
Listed in 2015 in response to the need by the livestock market to manage price risk, the beef futures contract can be used by commercial beef producers, feedlots, abattoirs as well as wholesalers. The underlying commodity of the contract is chilled beef carcasses graded A2/A3, with a contract size of 1 000kg. Only four main hedging months namely March, June, September, and December are available for trading to focus the liquidity of the contract.
The beef derivatives future contract does not allow for physical delivery; it is cash settled with the final mark to market price derived from price data of the underlying physical market. The JSE has partnered with the Red Meat Abattoirs Association (RMAA) to provide the underlying physical spot market price information on a weekly basis. This ensures that the derivative contract settlement price reflects the spot-market price of beef.
Participation in the futures contract is not limited to hedgers (farmers and abattoirs). The contract is also open to speculators who are interested in benefiting from the price movement of beef and do not have a link to the physical market. Speculators play a crucial role in the market as they provide liquidity, which allows participants the ability to trade in and out of the market effectively.
How does it work?
To manage the risk of falling carcass prices over the next few months, abattoirs will:
- Contact a JSE commodity broker that can be found on the JSE website.
- Sell a beef futures contract to protect its selling price. (Hedging is available in four hedging months, namely March, June, September, and December.)
- This short hedge covers the carcass stock for the duration of the futures contract. There is always a buyer for every seller, and the JSE provides the platform that connects buyer and seller to trade the standardised futures contract.
- As the expiration date approaches, the abattoir can either retain its position until expiration and receive a cash settlement, or it can repurchase the JSE contract and then settle the contract in cash in this way. Both ways use the cash adjustment to offset the price risk with the sale of physical carcasses in the cash market.
An example of a beef carcass future contract
A slaughterhouse sells a beef contract in April at R60/kg. The contract will expire in June.
In June, the cash settlement value is R55/kg. It is based on actual transactions data provided by RMMA
The abattoir will then receive R5/kg profit from its futures contract position. So, when the abattoir sells the carcasses in the cash market at R55/kg and the R5/kg it receives from the futures contract is added, the abattoir is back at its hedging level of R60/kg.
If the price rises to R62/kg in June, the abattoir will lose its opportunity to the higher price. However, what is more important is that the abattoir was guaranteed R60/kg and could plan. Similar cash flow examples can be applied to feedlots that want to sell their animals for slaughter purposes.
Listen to a radio interview about the topic in Afrikaans.
Wholesalers and retailers who want to protect themselves against beef price fluctuations can buy a beef carcass futures contract, which means that they can advertise beef prices to their end users ahead of time. This enables them to stay one step ahead of the competition.
Register for participation
Simply register as a client with an authorised JSE commodity derivative broker, deposit the required initial margin, and sell or buy according to your needs.