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The introduction of financial derivatives has fueled speculation in global commodity prices, creating tremendous price volatility.
Accenture examines the underlying causes and outlines remedial action for those commodity companies wanting to achieve high performance.
Most commodity markets are seasonal and supply is thus unstable. Unstable supply leads to unstable prices, which in turn attracts speculators. The subsequent increase in trading further increases price volatility.
The current rise in commodity prices—as much as 25 percent for iron, oil and soybeans—is not the result of an increase in demand, but rather because of speculation. Over the short term, the price volatility caused by speculation has a negative effect on markets; in the long term, speculation should make commodity assets more liquid, thus reducing volatility by making them easier to trade or convert to cash at their true market price.
However, in many of today’s commodity markets, the short-term cycle of volatility is stronger than the long-term cycle of liquidity. Examining the coffee market reveals some pointers as to why this should be the case:
Financial derivatives may have both negative and positive effects on commodity markets. On the positive side, increased trading increases price transparency; on the negative side, the entry of large speculators increases price volatility dramatically.
Accenture recommends that commodity organizations intent on achieving high performance should become actively involved in hedging with financial derivatives. This approach will help overcome the short-term cycle of volatility and help the long-term cycle of volatility prevail.
Contact us to find out how Accenture can help your organization cope with volatility on the path to high performance.
July 10, 2009
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