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Risk- you drive it or let it drive you

18 February 20207 min reading

Hedging and risk management help improve and control margins and the impact of commodity prices to a business’s operations. The region of the world that I focus on in Eastern Europe/Black Sea Region there remains a lot of unique commodity risks to watch. How to hedge that, with BWF? Matif wheat? Chicago or KC? BCF or Chicago corn? Futures or options given correlations present? Then you also have to consider FX implications if this remains a risk as well. Every company has a unique set of circumstances as well as knowledge level, and therefore the approach to hedging varies, but the point is that companies exposed to price risk should be progressing with the subject in some regards. So instead of wanting to be right, let's focus on being wrong less! Stay hedged up!

Matt Ammermann* Commodity Risk Manager Vice President Eastern Europe/Black Sea Region INTL FCStone Financial Inc.- FCM Division**

We all like to be right, right?! Yes, this is human nature, but we also have our flaws and can be incorrect, this is where the topic of hedging comes in. In simple terms, hedging helps protect us from the unknown or subjects that remain out of our control. Hedging involves taking an equal, or near equal opposite position to help offset some of your price risk. Sure, with hedging you give up some gains if the market moves in your favor, but you have an element of protection in place. In the event of the market going against your cash position you also help protect your losses. This type of risk management is a constant analysis of spreads and basis and the price relationship with one product vs the other, much like what FX pairs represent. Hedging can be a complex subject, but in reality, we all are actively hedging every day.

You drive a car? You buy car insurance. It looks like it will rain today? You grab an umbrella. You don’t plan on getting sick or going to the doctor, but yet you have health insurance. You don’t plan for a fire on your assets, but yet you buy property and casualty insurance. All these are basic examples of hedging your daily and business life, and so the same principle applies to those that have price risk. Price risk can be hedged via numerous sources; cash markets, futures, various options strategies as well OTC strategies.

Arguments remain that you might be better off without hedging, I can see this in a bull market via long cash or bear market via short cash, but history says you cannot fall in love with your position and have it always move in your favor. There is seasonality’s to consider when looking at a hedge program, but some action of risk management at all times remains the smart business decision to keep your company protected in the face of today’s unknowns. Time and time again you continue to see traders take small profits but allow a few big losses to ruin a nice P/L, and with the use of hedging, it allows for more consistency in an operation. I always like the example of house insurance, if your house never burns down you are better off to save the insurance money, but IF your house does burn down- do you have enough money saved to build a new house? In trading terms are you in a position to win big but possibly lose even bigger? That is always the risk. Sure it's nice from a farming/trading/exporting/importing/processing point of view to make $20/mt+, then $40/mt, but this obviously is not sustainable! Are you then in a position to absorb a $-20/mt, $-40/mt loss the same way?

As we all know there are many factors that influence the fundamental and technical side of the markets. Both these topics can be studied and an educated opinion can help guide you through your risk management decisions. There is this topic of ‘money flow’ that remains a massive influence in today’s markets. This involves geopolitical events, twitter headlines, weather surprises, and various Black Swan events. In business and today's markets, there are various calculated actions, however, we cannot always remove speculation. The goal in a risk management plan is to approach that aspect with a degree of an educated opinion. Growing businesses thrive on an action plan, not luck.

Finding this ‘balance’ can be a tough challenge in today’s grain markets, but executing a plan puts your business in a better position for growth and direction. Growing up on a farm myself and still active in the operations, greed can quickly take over when the market comes your way, separating feelings from reality is a key attribute to develop in any risk management plan.

Hedging as mentioned can be accomplished via the cash markets, but also the derivative markets. Future and options have various strategies to consider- whether it's conservative or aggressive, someone new to the industry, or an aged veteran their remains plenty to offer and be considered by all. Innovative pricing programs are a value-added service that commercial entities can offer their farmers or consumers. This allows both sides of the value chain to manage their price risk in combination with their cash activity, thus strengthening the bond between players in the industry.

The impacts of volatility are great in today's market. This can cause nice profits, but can also create some nasty losses. For example, the below graphics show the price volatility in 2019 as well as looking back at 2010 when grain prices moved violently upward. My question to market players is this: If you are not hedging are you comfortable with these type of price moves and fine with the market dictating if you make money? If not, then that’s a simple hedging case.

Hedging and risk management help improve and control margins and the impact of commodity prices to a business’s operations. The region of the world that I focus on in Eastern Europe/Black Sea Region there remains a lot of unique commodity risks to watch. How to hedge that, with BWF? Matif wheat? Chicago or KC? BCF or Chicago corn? Futures or options given correlations present? Then you also have to consider FX implications if this remains a risk as well. Every company has a unique set of circumstances as well as knowledge level, and therefore the approach to hedging varies, but the point is that companies exposed to price risk should be progressing with the subject in some regards. So instead of wanting to be right, let's focus on being wrong less! Stay hedged up!

The trading of derivatives such as futures and options involves substantial risk of loss and is not suitable for everyone. *Mr. Matt Ammermann is a Commodity Risk Management Consultant in the Eastern Europe/Black Sea region with the FCM Division of INTL FCStone Financial Inc. Working at the forefront of risk management in one of the fastest and largest growing agricultural markets in the world, his team provides risk management solutions to help improve and control margins and the impact of commodity prices to a business’s operation. For the past decade, Mr. Ammermann has been working in the region with producers, traders, exporters, crushers, millers, and consumers from all commodity groups helping to educate and guide them on how to effectively manage their price risk. INTL FCStone Financial Inc. offers in-depth market intelligence, which provides tremendous value in the volatile commodity markets. Growing up on a farm and active in its operations, Mr. Ammermann understands the markets are changing; companies that actively manage their price risk will be in a better position to grow and adapt to these market changes.

**INTL FCStone Inc. (NASDAQ: INTL), through its subsidiaries, provides clients with a comprehensive range of customized financial services around the globe. The trading of exchange-traded futures and options as well as swaps and OTC derivatives involves substantial risk of loss, and you should fully understand those risks prior to trading. All references to exchange-traded futures and options are made on behalf of the FCM Division of INTL FCStone Financial Inc., a NFA member and CFTC registered Futures Commission Merchant and Commodity Trading Advisor.

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