I’m trying to understand the concept of conveninece yields. The book talks about:
Convenience yields are primarily associated with commodities and generally exist as a result of difficulty in either shorting the commodity or unusually tight supplies. For example, if a commodity cannot be sold short without great difficulty or cost, the holder of the commodity has an advantage if market conditions suggest that the commodity should be sold.
(Institute 64)
Institute, CFA. 2016 CFA Level I Volume 6 Derivatives and Alternative Investments. CFA Institute, 07/2015. VitalBook file.
The citation provided is a guideline. Please check each citation for accuracy before use.
I don’t understand the second sentence. If the market conditions suggest that the commodity should be sold i.e. that prices are likely to fall in the future, then having the asset particularly when it’s difficult to sell the asset would be terrible? How then does this scenario produce a convenience yield to the party who is ‘stuck’ with a bunch of worthless stuff?
The bolded phrase is incorrect. The citation didn’t say that it’s difficult to sell the asset; it said that it’s difficult to _sell the asset short _. If you hold it, you can sell it today and Bob’s your uncle. If you _ don’t _ hold it, you can only sell it short (to give yourself time to acquire it so that you can deliver it); if it’s difficult or costly to sell it short, then if you don’t own it you’re stuck.
My understanding is that if it is difficult to sell short then those who hold the asset are at an advantage because they can sell the asset if market conditions are right. This advantage is the convenience yield.