Contract changes improve convergence of futures and cash prices for soft red winter wheat

Futures markets play an important role in price discovery (determination of prices through the interaction of market supply and demand) for major agricultural commodities, and provide a tool for growers, traders, and processors to mitigate risk. For futures markets to perform these functions effectively, the price of a commodity held in a futures contract must match (or “converge”) with its price in the cash—or spot—market when the futures contract expires. During 2005-2011, cash and futures prices for soft red winter (SRW) wheat failed to converge to the generally acceptable “basis”—or difference between the cash price and futures price—of plus or minus $0.10/bushel. At times the basis exceeded $1.00/bushel. In response, the futures exchanges modified their SRW contracts to better align contract terms with changes occurring in cash markets for factors including storage rates, major delivery locations for SRW, and quality specifications. Following these changes, cash and futures market prices for SRW have moved closer together, improving the effectiveness of futures contracts in determining prices and as a tool to manage risk. This chart is based on Recent Convergence Performance of Futures and Cash Prices for Corn, Soybeans, and Wheat, FDS-13L-01, released December 30, 2013.

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