10 September 2008
A cash commodity must meet three basic conditions to be successfully traded in the futures market:
It has to be standardized and, for agricultural and industrial commodities, must be in a basic, raw, unprocessed state. There are futures contracts on wheat, but not on flour. Wheat is wheat (although different types of wheat have different futures contracts). The miller who needs a wheat futures to help him avoid losing money on his flour transactions with customers wouldn't need a flour futures. A given amount of wheat yields a given amount of flour and the cost of converting wheat to flour is fairly fixed. hence predictable. Perishable commodities must have an adequate shelf life, because delivery on a futures contract is deferred. The cash commodity's price must fluctuate enough to create uncertainty, which means both risk and potential profit.
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