Hi, I can’t understand all the convenience yield definitions i have read so far… Given this definition of it : “the extra gain that an investor receives for holding a commodity rather than an option or futures contract on that commodity”
If i hold the commodity in my inventory 1) in the event of shortage the price of my inventory increases 2) in the event of a high increase in market production, the price of my inventory decreases… and in this case the convenience yield would be negative right?
So why we are always taked about the “extra gain” while it could be a LOSS for the owner.
Moreover, i have read this : “if one holds so many barrels of oil and there is a sudden disruption in a major pipeline, the value of the physical barrel will increase while the value of a futures contract on oil likely will decrease” Why Does the value of the future contract would decrease??? i thought future were delta one derivatives! Many thanks for the help
Why not ? I sell my flour futures contract at any time, get the mark to market in cash settlement and then buy the flour ! As i understand it, futures/forwards are contracts to exchange the carrying risk against money… So convenience yield should be priced in the futures otherwise there would be an arbitrage opportunity !
Ok so there is a kind of “privilege” in owning the commodity. But most of time, we are talked about the inventory level that could benefit the commodity owner whereas this is not always the case ! Moreover, what about this sentence : “if one holds so many barrels of oil and there is a sudden disruption in a major pipeline, the value of the physical barrel will increase while the the value of the futures will likely decrease" I really do not understand this point
You need petrol to get to work. If there’s no new oil being delivered, you have to buy it from those who already have it, and they can charge a higher price (where else are you going to go?). The people who have futures have pieces of paper; your car doesn’t run on pieces of paper.
Remember, in arriving at the future price, we subtract Convenience yield from the equation, thus in the even that you are trying to depict, the effect of the negative convenience yield will be an addition to the equation, and thus the forward price will be greater than the spot price (Contango).