Convenience Yield and the Option to Liquidate for Commodities with a Crop Cycle
AbstractIn this paper we present a simple model which explains convenience yields in line with Keynes' 'liquid stocks' theory. When the flows of demand and production of a commodity are not synchronised, stored inventories are the source of supply which absorbs demand fluctuations in periods between production times. Since negative storage is not possible, the likelihood of a stockout implies that spot price may rise above futures price between production times. We show that the yield on stored commodities has the payoff structure of a call option. Furthermore, the existence of this call option acts to counter the appearance of normal backwardation in futures prices. Empirical tests on four commodities offer supportive evidence of our theory. Copyright 1997 by Oxford University Press.
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Bibliographic InfoArticle provided by Foundation for the European Review of Agricultural Economics in its journal European Review of Agricultural Economics.
Volume (Year): 24 (1997)
Issue (Month): 2 ()
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- Zulauf, Carl R. & Zhou, Haijiang & Roberts, Matthew C., 2005. "Updating the Estimation of the Supply of Storage Model," 2005 Annual meeting, July 24-27, Providence, RI 19122, American Agricultural Economics Association (New Name 2008: Agricultural and Applied Economics Association).
- Heaney, Richard, 2002. "Does knowledge of the cost of carry model improve commodity futures price forecasting ability?: A case study using the London Metal Exchange lead contract," International Journal of Forecasting, Elsevier, vol. 18(1), pages 45-65.
- An-Sing Chen & James Wuh Lin, 2004. "Cointegration and detectable linear and nonlinear causality: analysis using the London Metal Exchange lead contract," Applied Economics, Taylor & Francis Journals, vol. 36(11), pages 1157-1167.
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