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Cash-traded ags 'more profitable' than futures-traded ones

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Forget futures.

Agricultural commodity traders may fare better sticking to crops traded through cash rather than derivatives, one of Asia's best-known entrepreneurs in the sector said – despite getting caught out by going short on one of them, hazelnuts.

Sunny Verghese, founder and chief executive of Olam International, the Singapore-based trader in as from cashews to corn, said that the group was actually marginally weighted towards futures-traded crops, such as cocoa, coffee and cotton, in its book.

"On a risk-adjusted basis, we are roughly now 45% cash traded commodity, 55% futures traded commodities," Mr Verghese said.

However, that may not be the most profitable balance.

"If you look at our 25-year history, the risk return is far better in the cash-traded commodities than in the futures-traded commodities," he said.

Less complexity = more profit

Mr Verghese acknowledged that this observation was "a bit counterintuitive", given the liquidity offered by futures.

"At the end of the day, you feel in future sales commodities, you can hedge out your price exposure."

However, there are "complications" in futures, such as an inverted market, meaning losses as hedges are rolled forward.

"Over a 25-year period, when we look at the relative risk return impact of cash versus futures, we believe that the cash-traded commodities have less complexity and therefore over a long period of time, offer us better returns."

He added that the group's love of lower-profile crops "has now become a differentiator for us because most of our competitors don't do that.

"Their rule of portfolio selection is that it has to be futures-traded before they are willing to consider including it in the portfolio."

On the pulse

In fact, Olam can "internally find ways of hedging [cash-traded crops] better than most other can".

But that requires quite some investment. Olam gains its edge through a "rule" of creating a foothold in every major producing area for the crop concerned.

"We want to be in 90% of the producing regions for each of those commodities, so we are in all the producing regions for cashew, we are all in the major producing regions for any of the cash-traded commodities that we are involved in.

"Over time, we have established a good system for managing and mitigating the risks there and [predicting] the returns."


That said, Olam's system is not foolproof.

Mr Verghese - speaking as Olam discussed a 29% fall to Sing$32.2m in the group's earnings in the July-to-September quarter, acknowledged the "problem" presented by a frost which has cut production in Turkey - responsible for some 75% of world output, by an estimated 25-35% to about 450,000-470,000 tonnes.

This in turn has sent prices soaring to 28,000-29,000 Turkish lira per tonne, from 12,000 Turkish lira per tonne – with the rally starting when Olam had a short position.

"We had started seeing some signs of lower supply and had reduced our short book or rather not taken much of a short book.

"But we were still exposed to about 3,500, 4,000 tonnes at the start of the season.

"This obviously has had an impact" in results for the July-to-September quarter, and there will "be some impact going into" the October-to-December quarter", Mr Vergehese said, adding that it was an issue "for the whole industry", including chocolate manufacturers.

"What you will not be able to really predict is the sudden weather event of the kind that we had this year in terms of a frost."


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