RISK MANAGEMENT AND DERIVATIVES

Base metal derivatives allow price risk to be managed and more precisely controlled, and also profits to be made on speculative positions. As they can be used for different purposes, hedgers and traders will not adopt the same strategy.

Assume you are an aluminium smelter and you wish to hedge (protect) your production against falling prices (also called commodity price risk): you could sell (short) a futures contract on the LME and benefit if prices fell. This would offset the fall in prices received when the goods were actually sold. You could also buy a put option on the same futures contract.

Alternatively, if you were a consumer you could protect yourself from rising ore prices by agreeing a price today for ...

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