Hedging FX Exposure in Brazilian Soybean Trades

The Chicago Board of Trade (CBOT) Soybean futures contract is the global benchmark reference for the soy market. Whilst the CBOT contract specifies delivery in the US Midwest, soy is both produced and consumed globally. International trade in soy is conducted in US dollars, making the CBOT contract a valuable hedging tool, but the conversion of trade revenues into local currency means there is an additional foreign exchange (FX) risk which may need to be managed.

Foreign exchange rates fluctuate separately from the price of agricultural commodities, and movements in the foreign exchange rate can have a substantial positive or negative impact on incomes from international trade.

Brazil produces a substantial amount of soy and supplies the international market. Estimates for the 2018/19 season put the Brazilian soybean product at 117 million metric tons, with nearly two thirds of this amount being exported. Brazil has been the world’s largest exporter of soybeans since 2013, surpassing the United States, which historically was the dominant exporter.

Movements in the Brazilian real (BRL), can have significant implications for the returns that are generated from Brazilian exports of soy. For example, we can look at market prices in the period up to and including the first quarter of 2020.

Source: CME Group. Active month CBOT Soybean futures settlement price; converted to BRL using CME BRL/USD futures settlement price.

During this period of increased global uncertainty, prices for soy in US dollars had fallen in comparison to the values seen in Q4 2019, and at the end of March 2020, the active futures contract was priced at 886 cents per bushel. However, over the same period there has been a depreciation in the value of the Brazilian real in relation to the US dollar, moving from around BRL 4 per dollar to nearly BRL 5.2 per dollar. This will have had a beneficial effect for Brazilian soy exporters, as the CBOT price expressed in BRL has increased from BRL 38.13 to BRL 46.05 per bushel, which is approximately a 20% increase.

This highlights the uncertainty that FX market prices can have for exporters. Favorable movements in FX rates may well be followed by less favorable ones. A move in the FX rate that benefits exporters will at the same time adversely affect importers.

CME Group offers futures and options contracts on the Brazilian real FX rate, which can be used to manage this FX exposure. These contracts are cash-settled with reference to the PTAX rate for US dollars priced in Brazilian reais published by the Central Bank of Brazil. Each futures contract is for BRL 100,000. Using prices at the end of Q1 2020, this equates to a contract value of $19,236, which can be compared to the dollar value of a Soybean futures contract of $44,300.

Below is an example of how the CME Brazilian Real futures contract can be used to hedge the FX component of a Brazilian soybean export transaction.

Scenario

In late April, a Brazilian soy trading company has an export order for 6,000 metric tons of soybeans, to be delivered in one month’s time. The agreed terms are for payment in US dollars at a rate equal to the Soybeans July futures price on the delivery day, minus 10 cents per bushel.

Transaction Information

Soybean export quantity

6,000 metric tons (~ 220,462 bushels)

Agreed sale price

CBOT Soybean July Ffutures price minus 10 cents per bushel

Current CBOT Soybean July futures Price

890 cents per bushel

CBOT Soybean futures contract size

5,000 bushels

Current Brazilian Real June futures Price

$0.19200 per Brazilian real

Brazilian Real futures contract size

BRL 100,000

For the trading company, this creates a one-month period of uncertainty as to the revenue that will be achieved. This has two components: the price of soy and USD/BRL foreign exchange rate. Both these components of the risk can be hedged with futures.

The exposure to the CBOT soy price can be hedged with Soybean futures. With each futures contract representing 5,000 bushels of soybeans, selling 44 futures for the July delivery will effectively hedge this position with respect to the price of soy.  This futures position can be closed out on the day the trading company makes delivery on the order.

The current price of the CBOT Soybean futures July contract is 890 cents per bushel. Selling futures at this price will hedge the exposure to soybean price fluctuations. With a price of 890 cents per bushel established through the Soybean futures hedge, the trading company can be confident in achieving a dollar revenue of 880 cents per bushel on the sale, i.e., including the agreed price discount.

The FX component of the transaction can be hedged using the CME Brazilian real futures contract. To determine the hedge transaction required, the trading company needs to determine whether to buy or sell futures, and the quantity to be transacted.

Even though the CME Brazilian real futures contract is a cash settled contract, buying one contract is equivalent to buying Brazilian reais in exchange for US dollars. Selling the future is equivalent to selling Brazilian reais in exchange for US dollars.

The Brazilian soy trading company will wish to convert the US dollar proceeds into Brazilian reais upon completion, and therefore will be buying Brazilian reais. This requirement can be hedged by buying CME Brazilian Real futures contracts. These futures should be purchased to implement the hedge and sold to close out the position once the FX hedge is no longer required. The expiration of the CME Brazilian Real futures contract occurs at the end or prior to the named expiry month. Therefore, for example, the June futures contract expires at the end of May. This would make it the appropriate futures contract month to hedge this transaction.

The number of FX futures needed to hedge the transaction can be calculated by considering the currency exposure. With the Soybean futures hedge, the trading company will expect to receive US$ 1,940,067 from the sale.

The futures price, quoted in US dollars per Brazilian real, is $0.19200, which is the equivalent of BRL 5.2083 per US dollar. At this exchange rate the sale proceeds will be BRL 10,104,518. The contract size of the CME Brazilian Real futures contract is BRL 100,000, therefore to hedge the FX exposure, the trading company needs to buy 101 futures.

We can examine what might happen to this hedged position in different outcomes. To focus on the FX component, let’s assume that the soybean price is unchanged over the one-month period.

Outcome 1: A decrease in the value of the Brazilian real

A decrease in the value of the Brazilian real can also be viewed as an increase in the value of the US dollar, measured in Brazilian reais. In this example, we assume a decrease in value from $0.192 to $0.182 per Brazilian real. This can also be seen as a change in value from BRL 5.2083 per US dollar to BRL 5.4945 per US dollar.

With the soybean price stable at 890 cents per bushel, the US dollars proceeds from the sale are $1,940,067, and the return from the Soybean futures hedge is $0. In local currency terms, the proceeds are BRL 10,659,711, which is higher than anticipated had the exchange rate not changed. This higher outcome is offset by a loss made on the FX futures position. Overall the cashflow has been maintained in line with expectations, which is the purpose of the hedging strategy.

 

 

Physical soybeans

Physical BRL cashflows

Brazilian Real futures

Late April

 

Expected BRL 10,104,518

Buy 101 @ 0.19200

Late May

Sell 6,000mt @ 880 ¢/bushel

Actual BRL 10,659,711

Sell 101 @ 0.18200

Impact

 

+ BRL 555,193

-$101,000

(- BRL 554,945)

Outcome 2: An increase in the value of the Brazilian real

An increase in the value of the Brazilian real can also viewed as a decrease in the value of the US dollar, measured in Brazilian reais. In this example, we assume an increase in value from $0.192 to $0.202 per Brazilian real. This can also be seen as a change in value from BRL 5.2083 per US dollar to BRL 4.9505 per US dollar.

Again, with the soybean price stable at 890 cents per bushel, the US dollars proceeds from the sale are $1,940,067, and again the return from the soybean futures hedge is $0. However, in local currency terms, the proceeds are BRL 9,604,294, which is lower than anticipated had the exchange rate not changed. To compensate, the FX futures hedge position records a gain of $101,000, which equates to a gain of BRL 500,000.

 

Physical soybeans

Physical BRL cashflows

Brazilian Real futures

Late April

 

Expected BRL 10,104,518

Buy 101 @ 0.19200

Late May

Sell 6,000mt @ 880 ¢/bushel

Actual BRL 9,604,294

Sell 101 @ 0.20200

Impact

 

- BRL 500,224

+$101,000

(+ BRL 500,000)

Conclusion

In uncertain times, hedging expected future revenues and expenditures can help to stabilize cash flow and create greater confidence in business performance.

For participants in international agricultural trade, CME Group’s suite of FX futures contracts complement the benchmark agricultural futures contracts and can provide for greater certainty and stability of cashflows and incomes.

Salient features of the futures contracts discussed in this article.

Contract

Soybean futures

Brazilian Real futures

Exchange listing

CBOT

CME

Commodity code

CME Globex: ZS
Clearing: S

CME Globex: 6L
Clearing: BR

Contract size

5,000 bushels

BRL 100,000

Quotation

US cents per bushel

US dollars per Brazilian real

Tick size

0.25 cents per bushel
$12.50 per lot

$0.00005 per BRL
$5.00 per lot

Listed months

15 monthly contracts of Jan, Mar, May, Aug, Sep ,and 8 monthly contracts of Jul and Nov

60 consecutive calendar months

Last trading day

Business day prior to the 15th day of the contract month

Last business day of the month immediately preceding the contract month, using Brazilian holiday calendar

Settlement method

Deliverable

Financially settled

Final settlement price

Delivery at the contract settlement price on the day on which the seller provides a notice of intention to deliver.

The inverse of the “Commercial exchange rate for Brazilian reais per US dollar for cash delivery” (PTAX rate) published by the Central Bank of Brazil.

Author

Richard Stevens, Executive Director of FX Research and Product Development


For more information or to discuss any of the themes detailed here, please contact your CME account representative or fxteam@cmegroup.com

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