Risk Management in Commodity Markets: From Shipping to Agriculturals and Energy

4

The Design of New Derivative Markets

Giovanni Barone-Adesi

4.1 INTRODUCTION

Commodity markets are rapidly changing. The emergence of new financial centers, the deregulation of older markets, financial and technological innovations all combine to change the market landscape. Older markets apply a variety of strategies to adapt to new realities, ranging from consolidation to development of new technologies and new lines of business. This chapter illustrates the main trends in this process, their motivations and the considerations that rule the implementation of these strategies.

The economic environment spanned by financial globalization enhances opportunities for trading derivatives on commodities and financial assets. Liberalization of the economy implies market deregulation and often leads to the privatization of industries previously considered to be natural monopolies. The aim of this process is to improve economic performance. However these steps are not sufficient if competition is not ensured. Therefore market design plays a crucial role for economic growth.

The price information and the better allocation of risk allowed by commodity markets may contribute to reduce uncertainty firms face, but these benefits may be negated by uncompetitive market structures. Atomistic markets with full information disclosure are the most competitive. Perfect competition, however, destroys profitability, threatening the long term survival of the market. Therefore market design must strike ...