1
Hedging Palm Oil in Bursa
Malaysia Derivatives
Jeffrey Tan
General Manager, Product & Market Development
Bursa Malaysia Derivatives Berhad
2nd Palm Oil Internet-based Seminar
7-13 February 2011
Hedging is the transfer of price risks associated with physical palm
oil market activities. For palm-oil based product distributors, the way
to control costs and margins is to hedge. For upstream producers,
the way to lock in desirable margins is to hedge.
By not hedging, a company is actually speculating that the market
will move favorably with respect to their market position! Recent
history suggests price peaks and troughs are unpredictable due to
unforeseen political events, weather, as well as supply and demand
imbalances.
A comprehensive hedging program provides risk management since
financial performance is materially impacted by fluctuating prices.
Concept of Hedging
Who Should Hedge Palm Oil Products Exposure
• Any companies whose margins are impacted by increasing or
decreasing prices of palm oil products
• Examples : producers, millers, refiners, traders, wholesalers
and end-users
• Hedging is needed at every level of palm oil value chain, from
FFB harvesting to milling to refining and to the end products
Malaysian Ringgit-Denominated Crude Palm Oil Futures
Crude Palm Kernel Oil Futures
USD-Denominated Crude Palm Oil Futures
Kuala Lumpur Composite Index Futures
Kuala Lumpur Composite Index Options
Single Stock Futures
3-Month KLIBOR Futures
3-Year Malaysian Government Bond Futures
5-Year Malaysian Government Bond Futures
Palm Oil Derivatives Products Offered
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Bursa CPO Settlement Price (RM)
FCPO Settlement Price (RM)
Price Comparisons*
January 2011
(RM/MT)
October 2010
(RM/MT)
October 2005
(RM/MT)
Crude Palm Oil 3,771 2,853 1,456
RBD Palm Oil 3,819 2,951 1,510
RBD Palm Olein 3,828 2,978 1,558
RBD Palm Stearin 3,752 2,921 1,286
Palm Kernel Oil 6,440 4,224 2,076
* Source : MPOB
Futures market – an auction market where participants
buy and sell CPO/PKO for delivery on a specific future
date
Futures contract – contract between buyer and seller
where buyer is obliged to take delivery and seller is
obliged to provide delivery of a fixed amount of CPO/PKO
at a predetermined price at a specified location
Everything is standardized except price. Already
determined include: commodity, quantity, quality, delivery
date
Futures Market
Trade Flow
Broker A
Broker B
Bursa
Malaysia
Derivatives
Clearing
House
Surveillance
Clients notify their
brokers on their
trade orders
Brokers key in their
clients orders in the
trading system
Orders are routed
to the Exchange
and matched
Matched trades are sent to the
Clearing House to be cleared
and to Surveillance
Notification is sent
once trades are
matched
Screen Shot of a Typical Trading Day
Open High Low Settlement Change
September, 2010 2,690 2,717 2,667 2,670 -47 885 4,619
October, 2010 2,620 2,633 2,569 2,570 -58 3,807 13,572
November, 2010 2,555 2,567 2,502 2,510 -50 17,235 23,114
December, 2010 2,533 2,543 2,477 2,481 -59 6,171 14,706
January, 2011 2,539 2,539 2,473 2,475 -59 697 6,527
February, 2011 0 0 0 2,461 -59 0 91
March, 2011 0 0 0 2,461 -59 0 1,817
May, 2011 2,526 2,526 2,510 2,448 -59 40 1,125
July, 2011 2,528 2,528 2,528 2,459 -59 1 488
September, 2011 0 0 0 2,460 -59 0 246
November, 2011 2,525 2,525 2,525 2,464 -59 20 156
January, 2012 2,535 2,535 2,518 2,481 -59 80 885
March, 2012 2,538 2,538 2,502 2,486 -59 2 628
May, 2012 0 0 0 2,486 -59 0 680
July, 2012 0 0 0 2,486 -59 0 0
Contract Prices (RM) Volume Open
InterestPrevious Average
2,717 2,691
2,628 2,597
2,560 2,535
2,540 2,513
2,534 2,514
2,520 0
2,520 0
2,507 2,521
2,518 2,528
2,519 0
2,523 2,525
2,540 2,530
2,545 2,520
2,545 0
2,545 0
2,970
2,975
2,980
2,985
2,990
2,995
3,000
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Crude Palm Oil Futures All Month Prices
Crude Palm Oil Futures Forward Curve (at 21st Oct 2010)
RM/MT
Crude Palm Oil Futures – Contract Specifications
Contract Code FCPO
Underlying Instrument Crude Palm Oil
Contract Size 25 metric tons
Minimum Price Fluctuation RM1 per metric ton
Contract Months Spot month and the next 5 succeeding months, and thereafter,
alternate months up to 24 months ahead
Trading Hours First trading session: Malaysian10:30 a.m. to 12:30 p.m.
Second trading session: Malaysian 3:00 p.m. to 6:00 p.m.
Speculative Position Limits 500 contracts net long or net short for the spot month
5,000 contracts for any single delivery month except for the spot
month
8,000 contracts for all contract months combined
Final Trading Day and
Maturity Date
Contract expires at noon on the 15th day of the delivery month, or if
the 15th is a non-market day, the preceding Business Day.
Tender Period 1st Business Day to the 20th Business Day of the delivery month,
or if the 20th is a non-market day, the preceding Business Day.
Crude Palm Oil Futures – Contract Specifications
Daily Price Limits Except for spot month trades, trades in any month shall not be
made at prices more than 10% above or below previous day’s
settlement prices (“the 10% Limit”) except as provided below.
When at least 3 non-spot month contracts are trading at the 10%
Limit, there shall be a 10-minute cooling off period for all contract
months (except the spot month) during which trading shall only take
place within the 10% Limit. Following this cooling off period, all
contract months is specified as interrupted for a period of 5
minutes, after which the trades for all contract months (except the
spot month) shall not vary more than 15% above or below previous
day’s settlement prices (“the 15% Limit”).
If the 10% Limit is triggered less than 30 minutes before the end of
the first trading session, the following shall apply:-
a. the contract months shall not be specified as interrupted;
b. the 10% Limit shall be applied to all contract months (except the
spot month) for the rest of the first trading session; and
c. the 15% Limit shall be applied for all contract months (except the
spot month) during the second trading session.
If the 10% Limit is triggered less than 30 minutes before the end of
the second trading session, the 10% Limit shall be applied to all
contract months (except the spot month) for the rest of the day.
Crude Palm Oil Futures – Contract Specifications
Contract Grade and
Delivery Points
Crude Palm Oil of good merchantable quality, in bulk, unbleached,
in Port Tank Installations approved by the Exchange located at the
seller’s option at Port Kelang, Penang/Butterworth and Pasir
Gudang (Johor).
Free Fatty Acids (FFA) of palm oil delivered into Port Tank
Installations shall not exceed 4% and from Port Tank Installations
shall not exceed 5%
Moisture and impurities shall not exceed 0.25%.
Deterioration of Bleachability Index (DOBI) value of palm oil
delivered into Port Tank Installations shall be at a minimum of 2.5
and of palm oil delivered from Port Tank Installations shall be at a
minimum of 2.31.
Deliverable Unit 25 metric tons, plus or minus not more than 2%.
Settlement of weight differences shall be based on the simple
average of the daily Settlement Prices of the delivery month from:
a. the 1st Business Day of the delivery month to the day of tender,
if the tender is made before the last trading day of the delivery
month; or
b. the 1st Business Day of the delivery month to the Business Day
immediately preceding the last day of trading, if the tender is made
on the last trading day or thereafter.
FCPO is a physical delivered futures contract
C
Client
(Seller)
PTI
Seller
Delivers
CPO to
PTI
PTI conducts Appraisal:
• M&I
• FFA
• DOBI
PTI issues NSR
• Name & Location of PTI
• Date of Appraisal
• Certification of Quality
• Validity Date of NSR
Clearing
Broker (S)
Clearing
House
Notice of Tender (with NSR) must be submitted during tender period (1st – 20th)
Clearing
Broker (B1)
Clearing
Broker (B2)
Tender Advice will be
allocated to CPs on
proportionate basis
(based on OP)A
B
D
Client 1
(Buyer)
Client 2
(Buyer)
Tender Advice
allocated to CP is
onward allocated on
random basis at
client’s level
E
C
Client
(Seller)
PTI
Seller
Delivers
CPO to
PTI
PTI conducts Appraisal:
• M&I
• FFA
• DOBI
PTI issues NSR
• Name & Location of PTI
• Date of Appraisal
• Certification of Quality
• Validity Date of NSR
Clearing
Broker (S)
Clearing
House
Notice of Tender (with NSR) must be submitted during tender period (1st – 20th)
Clearing
Broker (B1)
Clearing
Broker (B2)
Tender Advice will be
allocated to CPs on
proportionate basis
(based on OP)A
B
D
Client 1
(Buyer)
Client 2
(Buyer)
Tender Advice
allocated to CP is
onward allocated on
random basis at
client’s level
E
Client
(Seller)
PTI
Seller
Delivers
CPO to
PTI
PTI conducts Appraisal:
• M&I
• FFA
• DOBI
PTI issues NSR
• Name & Location of PTI
• Date of Appraisal
• Certification of Quality
• Validity Date of NSR
Clearing
Broker (S)
Clearing
House
Notice of Tender (with NSR) must be submitted during tender period (1st – 20th)
Clearing
Broker (B1)
Clearing
Broker (B2)
Tender Advice will be
allocated to CPs on
proportionate basis
(based on OP)A
B
D
Client 1
(Buyer)
Client 2
(Buyer)
Tender Advice
allocated to CP is
onward allocated on
random basis at
client’s level
E
Approved Port Tank Installation Owners
Butterworth Bulking
Installation Sdn Bhd
FIMA Palmbulk Services
Sdn Bhd
Wilmar Bulking
Installation Sdn Bhd
Cargill Palm Products
Sdn Bhd
FIMA Bulking Services
BhdPalmco Oil Mill Sdn Bhd
Felda Bulkers Sdn BhdGolden Hope Latex Sdn
Bhd
Simit Bulking Installation
Sdn Bhd
Felda-Johore Bulkers
Sdn Bhd
Kuala Lumpur Kepong
Bhd
Pacific Oils & Fats
Industries Sdn Bhd
Felda Palm Industries
Sdn BhdSocship Company Bhd
Stolthaven (Westport)
Bhd
In a rising spot price environment, a CPO trader who purchases and re-sells CPO may
have difficulty passing on his costs while protecting his profit margins. He decides to
purchase Bursa CPO for a percentage of his future commitments. He trades 300,000 tons
a year and decides to hedge 25,000 tons or 1 month’s commitment. He buys 1,000
contracts (equivalent to 25,000 tons) at RM3,700 per ton. Over the course of the next 10
days, prices rose to RM4,000 per ton. He sells out his Bursa at RM4,000 thereby realizing
a gain of RM300 per ton. The gain is offset by the higher cost of physical CPO he needs to
purchase.
Long Hedge Against Rising Prices
Physical Market Futures Market
21 Jan 2011 RM3,700 Buys 1,000 lots @ RM3,700/MT
= RM92.5m
31 Jan 2011 RM4,000 buys 25,000MT @
RM4,000/MT
= RM100.0m
Sells 1,000 lots @ RM4,000/MT
= RM100.0m
Futures Profit = RM100m – RM92.5m = RM7.5m
Effective Physical Price = RM100m – (RM100m – RM92.5m) = RM92.5m
A plantation company sees that prices have risen dramatically recently. His breakeven
price is RM1,200-RM1,500 per ton. Bursa’s futures have gone to RM4,000 per ton from
RM3,700. The company realizes that if it could sell a percentage of CPO at RM4,000, the
company would realize an attractive profit margin. Not knowing where prices will be over
the short term, the company decides to sell short Bursa futures at RM4,000 and lock in a
sale (substitute sale) to realize the margin. Shortly after, prices headed south to RM3,500.
Short Hedge Against Declining Prices
Physical Market Futures Market
31 Jan 2011 RM4,000/MT Sells @ RM4,000/MT
28 Feb 2011 RM3,500/MT Buys @ RM3,500/MT
Futures Profit = RM4,000 – RM3,500 = RM500/MT
Effective Physical Price = RM3,500 – (RM3,500 – RM4,000) = RM4,000/MT
• What is a crude palm oil futures contract?
It is a legally binding agreement guaranteed by Bursa
Malaysia Derivatives and regulated by Securities
Commission between a buyer and seller to make or take
delivery of a standardized quantity and grade of crude
palm oil. The price is agreed upon by the buyer and seller
in the form of bids and offers placed with a Bursa
Malaysia Derivatives broker or Trading Participant
Frequently Asked Questions (1)
• If I purchase a Bursa CPO futures contract, will I have to
take physical delivery on the contract
No. While you can take delivery of Bursa’s futures
contracts at specified delivery points such as Port Klang,
Butterworth or Pasir Gudang, you do not have to take
delivery. By purchasing the contract and then selling an
equal number of contracts in the same month before the
expiration, you no longer have an obligation to fulfill the
contract. The majority of futures contracts traded do not
end up becoming physical transactions. The same
applies for sellers.
Frequently Asked Questions (2)
• Does working with a Bursa Derivatives Trading Participant
or broker replace any relationships that a company may
have with regard to buying and selling oil palm products?
No. A palm oil-related company will still buy and sell oil
palm products to or from whomever they may currently be
buying or selling. Working with a Bursa Trading
Participant will complement those relationships.
Frequently Asked Questions (3)
• When I call up to place an order to buy or sell a futures
contract, who is on the other side and how do I know that
they will fulfill their obligation on the
One of the benefits of trading futures contracts is
anonymity. The person who is on the other side of the
trade is represented by a broker (member of the
exchange) just like you are. The exchange acts as a
central clearinghouse for buyers and sellers. The party
who is on the other side of the contract may have an
inverse risk profile in your market, may be a speculator, or
may be liquidating (getting out of a contract). As for the
performance of the contract, the exchange ultimately
guarantees the performance of the contract regardless of
whether a counter party is able to meet its obligation.
Frequently Asked Questions (4)
• How do I get started hedging with futures contracts?
First, you need to open a hedging account with a Bursa
Malaysia Trading Participant (a list of which can be found
in our website, www.bursamalaysia.com). Then you need
to deposit margin that is a good faith deposit for the
performance of the contract that you are going to buy or
sell. After this, you need to speak with a futures broker
representative (“FBR”) who can help you come up with a
game plan to accomplish your hedging goals.
Frequently Asked Questions (5)
Summary
1. Hedging takes away the uncertainty of price fluctuations.
For downstream palmoil-based users, the only way to
control your costs is to hedge. For upstream producers,
protecting your margins is through hedging.
2. Not hedging means the company is actually speculating
that the market will move favorably with respect to its
market position.
3. Prices are volatile and uncertain. Hedging is imperative
for risk management in securing pricing and sales, enabling
more accurate and predictable cash flow projections and
enhanced inventory management control.
List of Futures Brokers (www.bursamalaysia.com) 1. AmFutures Sdn Bhd
2. Innosabah Options Futures Sdn Bhd
3. Oriental Pacific Futures Sdn Bhd
4. JF Apex Securities Bhd
5. Inter-Pacific Securities Sdn Bhd
6. OSK Investment Bank Bhd
7. CIMB Futures Sdn Bhd
8. JPMorgan Securities (Malaysia) Sdn Bhd
9. Phillip Futures Sdn Bhd
10. ECM Libra Investment Bank Bhd
11. Kenanga Deutsche Futures Sdn Bhd
12. RHB Investment Bank Bhd
13. HDM Futures Sdn Bhd
14. LT International Futures (M) Sdn Bhd
15. Sunny Futures Sdn Bhd
16. HLG Futures Sdn Bhd
17. Okachi (M) Sdn Bhd
18. TA Futures Sdn Bhd
19. Interactive Futures Sdn Bhd
