Identifying possible misspecification in South African soybean oil futures contracts

ABSTRACT

With the inclusion of a locally traded soybean oil futures contract, that is dual-listed and cash-settled of the Chicago Board of Trade futures contract, the South African Futures Exchange (SAFEX) aimed to provide local soybean crushing plants, the opportunity for managing their exposure toward the variation in soybean oil prices using effective hedging strategies. Which is only viable assuming adequate liquidity, that is currently lacking in these futures contracts. The soybean oil contract used for hedging local price exposure should also reflect local import parity and/or be correlated to local price movements. Therefore, with most soybean oil usually being imported from Argentina, one would expect SAFEX soybean oil futures contracts to reflect the cost of imported soybean oil from Argentina. Hence, the research study used the Engle–Granger (1987) cointegration approach, alongside a range of diagnostic tests to determine whether SAFEX soybean oil futures contracts, that is dual-listed and cash-settled of CBOT settlement values is a misspecification and whether or not SAFEX soybean oil futures contracts should rather be based on the Argentina free-on-board soybean oil prices which is a much better representation of South Africa’s import parity and local industry prices.

KEYWORDS:

• Futures contract specifications
• soybean oil
• statistical analysis
• Engle–Granger cointegration

Disclosure statement

No potential conflict of interest was reported by the author(s).

Notes

1 Soybean crushing plants use soybeans (100%) to produce soybean meal (80%), soybean oil (18%) and low protein soybean hulls (2%), through a process known as “crushing”.

2 Liquidity can be considered as the most important constituent for successfully creating an agricultural futures contract, implying the existence of willing buyers and sellers should a participant wish to buy/ sell a futures contract (Van der Vyver 1994).

3 Today formally known as the United States (US) CME Group and previously known as the Chicago Board of Trade (CBOT).

4 In practice, the US fob value for soybean oil accurately reflects the CBOT soybean oil futures contract. To determine the SA import parity price, shipping and offloading costs, as well as local transport costs and import taxes, are added to the US fob value. The added-on costs are normally stable, however, the CBOT or US fob value, converted to Rand, is very volatile and it is this value that participants would like to secure. However, industry views differ and some specialists are of the opinion that a cash settlement contract will never work for the very reason that it does not take into account freight and premiums.

5 Overseas agricultural futures contracts that are dual listed on SAFEX are always cash settled (compared to local contracts that are physically settled), meaning the underlying physical commodity is not exchanged, only the monetary difference between the trade and closing price.

6 Free-on-board (fob) refers to the underlying commodity’s price, i.e. assuming delivery without the charge (freight) to ship from country of origin.

7 A betting strategy is used to ensure a favourable outcome with an arbitrarily high probability.

8 This is a sequence of random variables indexed by time. Meaning, if past conditions were different, we would fail to generate similar variables over the same time period.

9 Residual is the difference between the actual and estimated value of a variable.

10 A linear combination of two or more time series data variables: x_t1, x_{t2, … ,} x_tz, for all integers z ≥ 1; and ${\mathrm{Y}}_1$.

11 Time series data is considered stationary if for every group of time indices 1 ≤ T₁ < T₂ < … < T_n, the joint distribution of data variables (x_t1, x_{t2, … ,} x_tn) is similar to the joint distribution of (x_t1+z, x_{t2+z, … ,} x_tn+z) for all integers z ≥ 1, meaning their mean, variance and covariances are constant over time.

12 Speculators are those participants that seek to gain from short-term price movements in future markets, buying and selling futures contracts, within a relatively short time frame. Hoping to earn a monetary profit from their endeavours (SAIFM 2017).