Commodity price management
Commodity price management - best ways for companies to hedge their commodity risks
Sustainability – decarbonisation in particular – has become a megatrend, massively driving up demand for many commodities. Meanwhile, container shipping bottlenecks due to closed ports and terminals in China – not to forget ongoing restrictions on the free movement of goods – are disrupting the supply chain. Global events have an immense impact upon commodity prices and cause volatility. Companies should thus actively manage their commodity price risks.
Finding the right hedge for your commodity risks
Other potential reasons for price volatility include changes in economic forecasts, production limits (e.g. for crude oil) and industrial action. Extreme weather events, which have become a more frequent phenomenon in the recent past, are another factor behind volatile prices. As a result, companies that make extensive use of commodities are therefore finding it increasingly difficult to calculate orders with certainty. A sudden increase in commodity prices may quickly turn into a cost trap. Hence, companies should give priority to the active management of commodity price risks. This is the only way to achieve planning security, reduce exposure to price fluctuations, and guarantee stable prices for their customers.
Specific risk analysis as the first step
At Commerzbank, we support our customers in analysing their commodity risks and in quantifying their relevant areas of exposure. Transparency with regard to one’s own value chain is a prerequisite for the identification and hedging of risks. And any adequate hedging of commodity risks also involves paying attention to so-called secondary risks, such as foreign exchange rates, the cost of energy, transport, logistics and relevant packaging materials. There’s no uniform solution in commodity risk management as every corporate segment and every individual company has its own specific requirements. For example, a sudden increase in fuel prices can pose an existential threat to a logistics company because for them fuel is a crucial cost factor. Meanwhile, the same increase in fuel prices would probably constitute a secondary, indirect risk for other corporate segments. Companies should pay attention to these differences and hedge their risks in a specific, tailored manner.
Basic ways for companies to hedge their commodity risks
Many companies are already actively hedging their interest and foreign exchange risks. Identical financial instruments exist for the management of commodity price risks. However, the extent of volatility and the direct exposure of companies are much greater when it comes to commodities. At Commerzbank, we offer a multitude of instruments for hedging commodity risks. For example, it may be possible to hedge a fixed price for a certain commodity. A company might also choose to pay a premium for a kind of insurance, a warrant, which assures compensation in the event of a strong increase or decline in the price of a commodity. By combining these basic instruments, we can achieve specific payment profiles tailored to our customers’ requirements. These financial hedging instruments separate the price risk from the physical transaction allowing the client to be much more flexible at procuring commodities.
In addition, most companies have already acquired some experience and knowledge of their own, which can be meaningfully combined with our instruments. As a rule, a company’s finance department already uses similar instruments to hedge interest and foreign exchange risks. The corporate procurement unit contributes know-how with regard to commodities, supply and value chains. If this knowledge is paired with Commerzbank’s expertise, companies may hedge their commodity price risks in the best way possible.
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