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If enough people bet on wheat prices to rise, futures contracts get expensive compared to the current price of wheat. This opens the opportunity for someone to
by mrfredward 7y ago
If enough people bet on wheat prices to rise, futures contracts get expensive compared to the current price of wheat. This opens the opportunity for someone to rent a warehouse, fill it with wheat, and then take the opposite side of the futures contract (i.e. lock in a high future selling price for your wheat), yielding a guaranteed profit.
So if futures prices ever show a price increase greater than the cost of storage, people will start filling warehouses with wheat everywhere. It's just that normally commodities don't increase in price at a rate that exceeds the cost of storage.
- dalbasal 7y agoThe warehouse is a theoretical construct, in practice. Whatever the market does and whatever investors want their position to be (long, short..), they can take that position without any physical wheat actually entering or leaving a silo.
- dragontamer 7y agoBut the arbitrage is settled physically. When oil-storage was filling up, oil-futures drop in response (because the market knows that physical space was running out). That's the thing about the world: people exist in it, and can change the world. Increasing the number of warehouses (to make more money) is a good strategy, and the futures contracts provide a means for allocating these investments more efficiently.