The New Futures

April 26, 2010

Things are changing in the futures markets, as more contracts are added. Will they be useful for you?

  • Two minor metals
  • An unlikely ethanol offshoot
  • Another crude contract

 

Unlike stocks, bonds, or funds (mutual or otherwise) there are very few different futures contracts. Most serious traders, given a few minutes, could probably name all of them. (If you’ve started doing this yourself, you can stop, there’s not going to be a quiz.) But markets rarely stand still, and the menu of commodities futures contracts available does change.

The addition of a futures contract to an exchange is typically driven by the desire provide industry participants with price stability and a means of hedging against volatility. So when a new contract is launched, it means that the demand for and use of the commodity in question is significant enough that the spot market no longer gets the job done. In other words, an exchange doesn’t just add a new futures contract because it thinks it’d be nice, or convenient. Rather, new contracts are added because industry demands price stability.

What follows is a brief rundown of some of the new or impending futures contracts that have been recently added to various commodities exchanges, along with a rundown of the fundamentals and contract specifications.

As always, be careful out there—volumes on many of these contracts can be expected to stay light for a time.

Cobalt

Exchange:     London Metals Exchange (LME)
Initiated:    2/22/2010
Symbol:   CO
Contract Specifications: Click here.
Overview:     Most consumers are likely familiar with cobalt as a major input in rechargeable batteries.  Specifically, cobalt is used in the production of lithium-ion batteries, used largely in cell phone and laptop batteries. Cobalt is also used extensively in the production of aircraft engines, due to its stability at high temperature and resistance to corrosion.  Thus, the primary hedgers (and therefore the space to keep an eye on for those interested in investing) are going to be from the aerospace and technology hardware industries (computer and cell phone manufacturers).  Also, as battery technology evolves in other areas (i.e. automotive and/or electric utilities) cobalt stands to take on a more prominent role.

Molybdenum

Exchange:     London Metals Exchange (LME)
Initiated:    2/22/2010
Symbol:   MO
Contract Specifications: Click here.
Overview: Molybdenum, which resembles lead and has a silvery luster, is used primarily as an alloy in steel. Molybdenum has one of the highest melting points of any metal on Earth (or elsewhere, as far as we know), and as such is used in steel alloys when performance and stability at extremely high temperatures is a must. The primary hedgers are therefore heavy-duty industrial manufacturers, specifically the makers of high-performance engines, such as jet engines and industrial motors.

Distillers’ Dried Grain

Exchange:
    Chicago Mercantile Exchange (CME)
Initiated:    4/26/2010
Symbol:   DDG
Contract Specifications: Click here.
Overview: Distillers’ Dried Grain (DDG for short) is a by-product of corn-ethanol production, and is typically sold as livestock feed.  For ethanol producers, DDG is a waste product, yet it is an important part of the ethanol equation.  For ethanol distillation to be cost effective, the price at which the ethanol AND distiller’s dried grain can be sold must be greater than the costs of corn plus distillation.  In other words, it would be possible to run a profitable ethanol distillation outfit by losing money on ethanol sales, so long as DDG is selling sufficiently high in the spot market.  The major hedgers in the market will be the ethanol distillers, corn growers, and livestock farmers.  Expect DDG prices to be highly intertwined with the price of corn and/or meat such as live cattle and lean hogs.

Western Canadian Select Heavy Crude Oil

Exchange: Chicago Mercantile Exchange (CME)
Initiated:    TBD
Symbol:   TBD
Contract Specifications: Forthcoming
Overview: Western Canadian Select is yet another grade of crude oil looking to make a name for itself as a global oil benchmark alongside West Texas Intermediate, Brent Blend, and Dubai Crude.  Western Canadian Select (WCS) is a heavier crude than its American counterpart; the higher density implicit in a “heavy” grading means that WCS is more difficult (read: expensive) to refine, as such, WCS prices should be lower, in absolute terms, than those for West Texas Intermediate (listed on the CME as “Light, Sweet, Crude”).  Not surprisingly, the major participants in the market will be any and all Canadian oil companies, or any global oil companies with Canadian interests, as well as major Canadian crude consumers, such as airlines.  As a new futures contract in a sector where numerous other, similar contracts already exist, WCS may face liquidity and volume issues if Canadian oil industry participants don’t adopt the contract for hedging purposes.  Currently, the CME is offering cash-settled, over-the-counter swaps for WCS.  A true futures contract is in the works, with no specific release date established as of writing.

That’s just a sampling of what’s on the horizon.  Of the four, the chance to participate in the minor metals is probably the most interesting. No word yet on if iShares/iPath or any other exchange-traded product provider will be launching single-commodity ETFs/ETNs based on these contracts.

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