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Futures markets: role of non-commercial traders

ICC-124-5

124nd Session - International Coffee Council

Nairobi, Kenya

CYCLES OF HIGH AND LOW COFFEE PRICES, 1994 – 2018

0

50

100

150

200

250

300

350

Jan-

94

Jan-

95

Jan-

96

Jan-

97

Jan-

98

Jan-

99

Jan-

00

Jan-

01

Jan-

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US

cen

ts/lb

Colombian Milds Other Milds Brazilian Naturals Robustas

Shaded areas: periods of decreasing prices

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SIX MEASURES OF SPECULATION

• Monthly volume of futures contracts

• Monthly open interest in futures contracts

• Ratio of volume to open interest

• Ratio of long positions held by non-commercialtraders to total reportable long positions

• Ratio of short positions held by non-commercialtraders to total reportable short positions

• Index traders’ net positions (= long minus short)– Arabica futures market only

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MEASURES OF SPECULATION

1. Volume 2. Open interest

0

100

200

300

400

500

600

700

Mar

-199

4

Mar

-199

6

Mar

-199

8

Mar

-200

0

Mar

-200

2

Mar

-200

4

Mar

-200

6

Mar

-200

8

Mar

-201

0

Mar

-201

2

Mar

-201

4

Mar

-201

6

Mar

-201

8

Vol

ume

inde

x(1

st q

uart

er 1

994

= 1

00)

Financial Crisis 2008Robusta volArabica vol

0

100

200

300

400

500

600

Mar

-199

4

Mar

-199

6

Mar

-199

8

Mar

-200

0

Mar

-200

2

Mar

-200

4

Mar

-200

6

Mar

-200

8

Mar

-201

0

Mar

-201

2

Mar

-201

4

Mar

-201

6

Mar

-201

8

Ope

n in

tere

st in

dex

(1st

qua

rter

199

4 =

100

)

Financial Crisis 2008Robusta OIArabica OI

Measure of liquidity in the market – attracts investorsWeak measure of speculation

Indicator of trading interest, confidence in the market – attracts medium-long term investors

MEASURES OF SPECULATION

3. Ratio Volume / Open interest

Measure of short-term speculation: high volumes with low open interest = higher ratio

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

Ma

r-19

94

Ma

r-19

96

Ma

r-19

98

Ma

r-20

00

Ma

r-20

02

Ma

r-20

04

Ma

r-20

06

Ma

r-20

08

Ma

r-20

10

Ma

r-20

12

Ma

r-20

14

Ma

r-20

16

Ma

r-20

18

Robusta Vol/OI ratioArabica Vol/OI ratio

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MEASURES OF SPECULATION: NON-COMMERCIAL POSITIONS TO TOTAL REPORTABLE POSITIONS

4. Long 5. Short

Commercial traders -use futures contracts for hedging purposes (CFTC)Non-commercial positions (short or long) mainly represent speculative activity in pursuit of financial profits

0.0

0.1

0.2

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0.4

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0.9

1.0

Jun-

2006

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2007

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2008

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2009

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2010

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2011

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2012

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2013

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2014

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2018

Ra

tio

Robusta noncomm-long

Arabica noncomm-long0.0

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1.0

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2014

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2016

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2017

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2018

Ra

tio

Robusta noncomm-short

Arabica noncomm-short

MEASURES OF SPECULATION

6. Index traders’ net positions

Measure of speculation: These traders hold positions in a mix of commodity markets:Assumption: purposes other than hedging against commodity-specific risks (Robles et al., 2009).

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10

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30

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50

60

70

Jan-

2006

Jan-

2007

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2008

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2009

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2010

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2011

Jan-

2012

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2013

Jan-

2014

Jan-

2015

Jan-

2016

Jan-

2017

Jan-

2018N

umbe

r of

(eq

uiva

lent

) fu

ture

s co

ntra

cts

(tho

usan

ds)

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Methodology

GRANGER CAUSALITY TESTS

• Time series analysis

• Two statistical models:– M1: Relationship between the past behaviour

of prices with their current level (forecasting), . . . ,

– M2: Incorporates past speculation activity in M1 to assess its predictive power on present spot prices

, . . . , , , . . . ,

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GRANGER CAUSALITY TESTS

• Estimation of M1 and M2

• Test:

at a 95% statistical confidence level

• If the difference is at least zero (=>0): there is evidence of influence or predictive power of

speculation on coffee prices

• Values greater than zero only indicate a higher statistical confidence level, ex: 99%• No strong influence or power of speculation

Results

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ARABICA

0

1

2

3

4

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6

7

8

9

10

199

8m2

199

9m2

200

0m2

200

1m2

200

2m2

200

3m2

200

4m2

200

5m2

200

6m2

200

7m2

200

8m2

200

9m2

201

0m2

201

1m2

201

2m2

201

3m2

201

4m2

201

5m2

201

6m2

201

7m2

201

8m2

Ind

ex =

F s

tati

stic

-F

cri

tica

l va

lue

Volume Open Interest (OI)Ratio -Vol/OI Ratio - NonC pos (long)Ratio - NonC pos (Short) IndexT - net pos

Note: Dates indicate last month of a 50-month period

ROBUSTA

Note: Dates indicate last month of a 50-month period

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5

10

15

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25

1998

m2

1999

m2

2000

m2

2001

m2

2002

m2

2003

m2

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m2

2005

m2

2006

m2

2007

m2

2008

m2

2009

m2

2010

m2

2011

m2

2012

m2

2013

m2

2014

m2

2015

m2

2016

m2

2017

m2

2018

m2Ind

ex =

F s

tati

stic

-F

cri

tica

l val

ue

Volume Open Interest (OI)

Ratio -Vol/OI Ratio - NonC pos (long)

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CONCLUSIONS

• Speculative activity has predictive power over spot market prices in specific short time periods.

• No significant evidence of speculative activity affecting spot market prices during the recent downturn of the coffee market since 2016

• Speculation can exacerbate price trends in the short-term, but fundamentals (demand trends and supply shocks) prevail in the long-term

CONCLUSIONS - REGULATION

• Regulatory interventions can help to manage the impact of speculation:– Limiting the positions held by non-commercial

traders• Dodd-Frank Wall Street Reform and Consumer

Protection Act in the US

– Increasing costs of non-hedging participation in the market

– Imposing capital requirements for each transaction

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Thank you