Commodity Option Pricing: A Practitioner's Guide

8 Agricultural Derivatives

By now it is clear that most commodities come out of the ground itself, the commodities in Chapters 3 to 6 being mined directly, though electricity (Chapter 7) is generally (but not always) produced from fuel sources obtained through mining. However, mining is far from the only way to extract wealth from land. A second and equally established mode of production involves cultivating produce on the land itself, an economic sector which historically employed a great number of people in subsistence agriculture (and still does in much of the world).

In the modern world, however, industrialisation and mechanisation have greatly changed the way farming is carried out, a change in emphasis which has led to the development of financial markets around agriculture, including the use of futures and options. A general introduction to futures and options in the context of agriculture can be found in Bittman (2008), Bobin (1990) and Purcell and Koontz (1999). Agricultural commodities are also covered in Chapter 7 of Geman (2005) and Chapter 11 of Schofield (2007).

Not surprisingly given the reliance of agriculture on the seasons, seasonality is an important factor – we refer the reader to Sørensen (2002). Modelling efforts pertaining to agricultural commodities are covered in many papers, including Richter and Sørensen (2002), Koekebakker and Lien (2004), Geman and Nguyen (2005) and Schmitz, Wang and Kimn (2012), among others.

It should be noted that many of the ...