NZX is offering an online academy to teach dairy buyers and sellers about the futures market.

NZX has set up a free online hedging academy to teach farmers, processors and dairy buyers about hedging and the futures market.

The head of derivatives at the stock exchange, Nick Garden, said the academy is a starting point for farmers and processors to learn to manage commodity price risk.

Though hedging products have only been around since about 2010, volumes hedged in both ingredient contracts and milk price contracts are growing steadily year on year, Garden said .

The SGX-NZX NZ Milk Price futures and options traded 63,777 lots in 2023, up 42.4% on 2022. The volume traded in 2023 is equivalent to 382.6 million kg MS – or 20% of New Zealand’s milk production.

In the farming community the concept of price risk management is becoming normal as farmers become familiar with how the tools work, Garden said .

The hedge academy is there to make price risk management understandable for both businesses with their own treasury function, but also for smaller owner operators.

He said smaller operators often do not have time to dedicate to learning as the practical demands of their business take priority.

Larger corporate setups have been early adopters, with smaller entities learning “by osmosis”.

The academy has short video descriptions of each facet of hedging, such as futures, margins, options, (including price ceilings and floors) and other features of derivatives markets.

Besides in-depth descriptions of the theory of hedging, practical examples of, for example, how a farmer would hedge and the steps they go through until the final farmgate milk price is announced, are also discussed.

For example, what is a futures contract?

“A futures contract is a commitment to buy or sell a standardised asset, on a specific day but at a price agreed today.

“Such a transaction is facilitated on a futures exchange such as the NZX and can be used to protect producers, processors and manufactures from the risk of a price change, of an asset, over time.”

How does settlement work?

“There are two types of futures contract settlements – physical settlement, and cash settlement.

“Physical settlement is when, upon settlement, the buyer pays cash and, in return, the seller provides the physical security or commodity.

“Cash settlement is when, upon settlement, a payment of cash is exchanged, referenced to a benchmark market price.”

The practical examples are in-depth, but not confusing, such as the example of imaginary farmer Sue who is using SGX-NZX NZ Milk Price futures to hedge her farm’s exposure to milk price volatility – see the accompanying story.

Garden said for more farmers and processors to start hedging, they need to be supported by rural professionals who can competently understand the tools and enable more uptake of risk management products.

“Hedging is about removing volatility out of your business, essentially smoothing profit and loss through time.

“Every business needs to decide how much they want to hedge and when, as there are always risks. Making sure you’ve got good advice and have your banker, accountant, broker and financial adviser across what you’re trying to do is essential. Use that external support in your decision-making,” Garden said .

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