Buying (Going Long) Pork Bellies Futures to Profit from a Rise in Pork Bellies Prices

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The way of more flesh
Global meat-eating is on the rise, bringing surprising benefits

As Africans get richer, they will eat more meat and live longer, healthier lives


T HINGS WERE different 28 years ago, when Zhou Xueyu and her husband moved from the coastal province of Shandong to Beijing and began selling fresh pork. The Xinfadi agricultural market where they opened their stall was then a small outpost of the capital. Only at the busiest times of year, around holidays, might the couple sell more than 100kg of meat in a day. With China’s economic boom just beginning, pork was still a luxury for most people.

Ms Zhou now sells about two tonnes of meat a day. In between expert whacks of her heavy cleaver, she explains how her business has grown. She used to rely on a few suppliers in nearby provinces. Now the meat travels along China’s excellent motorway network from as far away as Heilongjiang, in the far north-east, and Sichuan, in the south-west. The Xinfadi market has changed, too. It is 100 times larger than when it opened in 1988, and now lies within Beijing, which has sprawled around it.

Between 1961 and 2020 the average Chinese person went from eating 4kg of meat a year to 62kg. Half of the world’s pork is eaten in the country. More liberal agricultural policies have allowed farms to produce more—in 1961 China was suffering under the awful experiment in collectivisation known as the “great leap forward”. But the main reason the Chinese are eating more meat is simply that they are wealthier.

In rich countries people go vegan for January and pour oat milk over their breakfast cereal. In the world as a whole, the trend is the other way. In the decade to 2020 global meat consumption rose by an average of 1.9% a year and fresh dairy consumption by 2.1%—both about twice as fast as population growth. Almost four-fifths of all agricultural land is dedicated to feeding livestock, if you count not just pasture but also cropland used to grow animal feed. Humans have bred so many animals for food that Earth’s mammalian biomass is thought to have quadrupled since the stone age (see chart).

Barring a big leap forward in laboratory-grown meat, this is likely to continue. The Food and Agriculture Organisation (FAO), an agency of the UN, estimates that the global number of ruminant livestock (that is, cattle, buffalo, sheep and goats) will rise from 4.1bn to 5.8bn between 2020 and 2050 under a business-as-usual scenario. The population of chickens is expected to grow even faster. The chicken is already by far the most common bird in the world, with about 23bn alive at the moment compared with 500m house sparrows.

Meanwhile the geography of meat-eating is changing. The countries that drove the global rise in the consumption of animal products over the past few decades are not the ones that will do so in future. Tastes in meat are changing, too. In some countries people are moving from pork or mutton to beef, whereas in others beef is giving way to chicken. These shifts from meat to meat and from country to country are just as important as the overall pattern of growth. They are also more cheering. On a planetary scale, the rise of meat- and dairy-eating is a giant environmental problem. Locally, however, it can be a boon.

Over the past few decades no animal has bulked up faster than the Chinese pig. Annual pork production in that country has grown more than 30-fold since the early 1960s, to 55m tonnes. It is mostly to feed the legions of porkers that China imports 100m tonnes of soybeans every year—two-thirds of trade in that commodity. It is largely through eating more pork and dairy that Chinese diets have come to resemble Western ones, rich in protein and fat. And it is mostly because their diets have altered that Chinese people have changed shape. The average 12-year-old urban boy was nine centimetres taller in 2020 than in 1985, the average girl seven centimetres taller. Boys in particular have also grown fatter.

China’s pork suppliers are swelling, too. Three-fifths of pigs already come from farms that produce more than 500 a year, and Wan Hongjian, vice-president of WH Group Ltd, China’s largest pork producer, thinks the proportion will rise. Disease is one reason. African swine fever, a viral disease fatal to pigs though harmless to people, has swept China and has led to the culling of about 1m hogs. The virus is tough, and can be eradicated only if farms maintain excellent hygiene. Bigger producers are likely to prove better at that.

High on the hog

Yet China’s pork companies are grabbing larger shares of a market that appears almost to have stopped growing. The OECD, a club of mostly rich countries, estimates that pork consumption in China has been more or less flat since 2020. It predicts growth of just under 1% a year over the next decade. If a country that eats so much of the stuff is indeed approaching peak pork, it hints at a big shift in global animal populations. Pigs will become a smaller presence on the global farm.

In 2020 animal products supplied 22% of the average Chinese person’s calorie intake, according to the FAO. That is only a shade below the average in rich countries (24%). “Unlike decades ago, there are no longer large chunks of the population out there that are not yet eating meat,” says Joel Haggard of the US Meat Export Federation, an industry group. And demography is beginning to prove a drag on demand. China’s population will start falling in about ten years’ time. The country is already ageing, which suppresses food consumption because old people eat less than young people do. UN demographers project that, between 2020 and 2050, the number of Chinese in their 20s will crash from 231m to 139m.

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Besides, pork has strong competitors. “All over China there are people eating beef at McDonald’s and chicken at KFC,” says Mr Wan. Another fashion—hotpot restaurants where patrons cook meat in boiling pots of broth at the table—is boosting consumption of beef and lamb. Last year China overtook Brazil to become the world’s second-biggest beef market after America, according to the United States Department of Agriculture. Australia exports so much beef to China that the Global Times, a pugnacious state-owned newspaper, has suggested crimping the trade to punish Australia for various provocations.

The shift from pork to beef in the world’s most populous country is bad news for the environment. Because pigs require no pasture, and are efficient at converting feed into flesh, pork is among the greenest of meats. Cattle are usually much less efficient, although they can be farmed in different ways. And because cows are ruminants, they belch methane, a powerful greenhouse gas. A study of American farm data in 2020 estimated that, calorie for calorie, beef production requires three times as much animal feed as pork production and produces almost five times as much greenhouse gases. Other estimates suggest it uses two and a half times as much water.

Fortunately, even as the Chinese develop the taste for beef, Americans are losing it. Consumption per head peaked in 1976; around 1990 beef was overtaken by chicken as America’s favourite meat. Academics at Kansas State University linked that to the rise of women’s paid work. Between 1982 and 2007 a 1% increase in the female employment rate was associated with a 0.6% drop in demand for beef and a similar rise in demand for chicken. Perhaps working women think beef is more trouble to cook. Beef-eating has risen a little recently, probably because Americans are feeling wealthier. But chicken remains king.

Shifts like that are probably the most that can be expected in rich countries over the next few years. Despite eager predictions of a “second nutrition transition” to diets lower in meat and higher in grains and vegetables, Western diets are so far changing only in the details. Beef is a little less popular in some countries, but chicken is more so; people are drinking less milk but eating more cheese. The EU expects only a tiny decline in meat-eating, from 69.3kg per person to 68.7kg, between 2020 and 2030. Collectively, Europeans and Americans seem to desire neither more animal proteins nor fewer.

If the West is sated, and China is getting there, where is the growth coming from? One answer is India. Although Indians still eat astonishingly little meat—just 4kg a year—they are drinking far more milk, eating more cheese and cooking with more ghee (clarified butter) than before. In the 1970s India embarked on a top-down “white revolution” to match the green one. Dairy farmers were organised into co-operatives and encouraged to bring their milk to collection centres with refrigerated tanks. Milk production shot up from 20m tonnes in 1970 to 174m tonnes in 2020, making India the world’s biggest milk producer. The OECD expects India will produce 244m tonnes of milk in 2027.

All that dairy is both a source of national pride and a problem in a country governed by Hindu nationalists. Hindus hold cows to be sacred. Through laws, hectoring and “cow protection” squads, zealots have tried to prevent all Indians from eating beef or even exporting it to other countries. When cows grow too old to produce much milk, farmers are supposed to send them to bovine retirement homes. In fact, Indian dairy farmers seem to be ditching the holy cows for water buffalo. When these stop producing milk, they are killed and their rather stringy meat is eaten or exported. Much of it goes to Vietnam, then to China (often illegally, because of fears of foot-and-mouth disease).

But neither an Indian milk co-operative nor a large Chinese pig farm really represents the future of food. Look instead to a small, scruffy chicken farm just east of Dakar, the capital of Senegal. Some 2,000 birds squeeze into a simple concrete shed with large openings in the walls, which are covered with wire mesh. Though breezes blow through the building, the chickens’ droppings emit an ammoniac reek that clings to the nostrils. A few steps outside, the ground is brown with blood. Chickens have been stuffed into a makeshift apparatus of steel cones to protect their wings, and their necks cut with a knife.

Though it looks primitive, this represents a great advance over traditional west African farming methods. The chickens in the shed hardly resemble the variegated brown birds that can be seen pecking at the ground in any number of villages. They are commercial broilers—white creatures with big appetites that grow to 2kg in weight after just 35 days. All have been vaccinated against two widespread chicken-killers—Newcastle disease and infectious bursal disease. A vet, Mamadou Diouf, checks on them regularly (and chastises the farmers for killing too close to the shed). Mr Diouf says that when he started working in the district, in 2020, many farmers refused to let him in.

Official statistics suggest that the number of chickens in Senegal has increased from 24m to 60m since 2000. As people move from villages to cities, they have less time to make traditional stews—which might involve fish, mutton or beef as well as vegetables and spices, and are delicious. Instead they eat in cafés, or buy food that they can cook quickly. By the roads into Dakar posters advertise “le poulet prêt à cuire”, wrapped in plastic. Broiler farms are so productive that supermarket chickens are not just convenient but cheap.

Economic vegetarians

Many sub-Saharan Africans still eat almost no meat, dairy or fish. The FAO estimates that just 7% of people’s dietary energy comes from animal products, one-third of the proportion in China. This is seldom the result of religious or cultural prohibitions. If animal foods were cheaper, or if people had more money, they would eat more of them. Richard Waite of the World Resources Institute, an American think-tank, points out that when Africans move to rich countries and open restaurants, they tend to write meat-heavy menus.

Yet this frugal continent is beginning to sway the global food system. The UN thinks that the population of sub-Saharan Africa will reach 2bn in the mid-2040s, up from 1.1bn today. That would lead to a huge increase in meat- and dairy-eating even if people’s diets stayed the same. But they will not. The population of Kenya has grown by 58% since 2000, while the output of beef has more than doubled.

Africa already imports more meat each year than does China, and the OECD’s forecasters expect imports to keep growing by more than 3% a year. But most of the continent’s meat will probably be home-grown. The FAO predicts that in 2050 almost two out of every five ruminant livestock animals in the world will be African. The number of chickens in Africa is projected to quadruple, to 7bn.

This will strain the environment. Although African broilers and battery hens are more or less as productive as chickens anywhere, African cattle are the world’s feeblest. Not only are they poorly fed and seldom visited by vets; in many areas they are treated more as stores of wealth than producers of food. Africa has 23% of the world’s cattle but produces 10% of the world’s beef and just 5% of its milk.

Lorenzo Bellù of the FAO points out that herders routinely encroach on national parks and private lands in east Africa. He finds it hard to imagine that the continent’s hunger for meat will be supplied entirely by making farming more efficient. Almost certainly, much forest will be cut down. Other consequences will be global. Sub-Saharan Africans currently have tiny carbon footprints because they use so little energy—excluding South Africa, the entire continent produces about as much electricity as France. The armies of cattle, goats and sheep will raise Africans’ collective contribution to global climate change, though not to near Western or Chinese levels.

People will probably become healthier, though. Many African children are stunted (notably small for their age) partly because they do not get enough micronutrients such as Vitamin A. Iron deficiency is startlingly common. In Senegal a health survey in 2020 found that 42% of young children and 14% of women are moderately or severely anaemic. Poor nutrition stunts brains as well as bodies.

Animal products are excellent sources of essential vitamins and minerals. Studies in several developing countries have shown that giving milk to schoolchildren makes them taller. Recent research in rural western Kenya found that children who regularly ate eggs grew 5% faster than children who did not; cow’s milk had a smaller effect. But meat—or, rather, animals—can be dangerous, too. In Africa chickens are often allowed to run in and out of people’s homes. Their eggs and flesh seem to improve human health; their droppings do not. One study of Ghana finds that childhood anaemia is more common in chicken-owning households, perhaps because the nippers caught more diseases.

Africans’ changing diets also create opportunities for local businesses. As cities grow, and as people in those cities demand more animal protein, national supply chains become bigger and more sophisticated. Animal breeders, hatcheries, vets and trucking companies multiply. People stop feeding kitchen scraps to animals and start using commercial feed. In Nigeria the amount of maize used for animal-feed shot up from 300,000 tonnes to 1.8m tonnes between 2003 and 2020.

You can see this on the outskirts of Dakar—indeed, the building is so big that you can hardly miss it. NMA Sanders, a feed-mill, turned out some 140,000 tonnes of chicken feed last year, up from 122,000 the year before, according to its director of quality, Cheikh Alioune Konaté. The warehouse floor is piled high with raw ingredients: maize from Morocco, Egypt and Brazil; soya cake from Mali; fishmeal from local suppliers. The mill has created many jobs, from the labourers who fill bags with pelleted feed to the technicians who run the computer system, and managers like Mr Konaté. Lorries come and go.

It is often said that sub-Saharan Africa lacks an industrial base, and this is true. Just one car in every 85 is made in Africa, according to the International Organisation of Motor Vehicle Manufacturers. But to look only for high-tech, export-oriented industries risks overlooking the continent’s increasingly sophisticated food-producers, who are responding to urban demand. Ideally, Africa would learn to fill shipping containers with clothes and gadgets. For now, there are some jobs to be had filling bellies with meat.

This article appeared in the International section of the print edition under the headline “A meaty planet”

What Are Pork Bellies in the Stock Market?

Pork bellies are used to make bacon.

Hemera Technologies/ Images

For most people, the market for pork bellies was little more than a punch line to a joke about the absurdities of the financial industry. As bizarre as it sounded, these cuts of pork were traded as commodities on the futures market, with a handful of traders buying and selling futures contracts based upon nothing more than slices of meat you could find at many butchers’ shops.

In the history of the U.S. stock market, pork bellies were cuts of meat that were traded as futures through 2020.

Pork Bellies 101

As a traded commodity, pork bellies were exactly what their name implied: cuts of meat taken from pigs’ stomachs. Because these fatty cuts could be used to make bacon and were being produced year-round, traders began purchasing, freezing and warehousing pork bellies during the winter, when demand for bacon was traditionally lower, and selling them in the summer when consumers had a taste for bacon and its price was higher. This commodity, sold on the futures market, was the basis for pork belly trading.

Pork Bellies Traded as Commodities

Because pork bellies were an unprocessed good that meatpacking plants were able to use to make bacon and other products, they began selling as commodities. As with all commodities, they were traded in standardized units: In this case, a unit consisted of 40,000-pound frozen slabs made up of eight- to 18-pound individual cuts of meat. This standardized contract allowed slaughterhouses, traders and food manufacturers an easy reference point to buy and sell mass quantities of pork bellies efficiently.

Use of Futures Contracts

Pork bellies could be frozen for up to a year, so meatpackers began turning to the commodity to help smooth out production costs, which could fluctuate wildly with agricultural production. Traders began purchasing agreements to sell standardized lots of pork bellies in the future, attempting to maximize profits by purchasing pork bellies when costs were low due to decreased demand or increased production and selling them when prices rose again. Trading in pork belly futures began on the Chicago Mercantile Exchange in 1961.

The End of an Era

Consumers’ eating habits and taste for bacon didn’t remain constant, however. Where demand for pork bellies traditionally rose during the grilling season, bacon became a much more prevalent part of the American diet, appearing on hamburgers and in salads. Because of this, volatility – essentially an expression of how unpredictable prices were – made trading in pork belly futures too risky for most traders, and volume of the futures slowly declined. In 2020, the Chicago Mercantile Exchange de-listed pork belly futures due to low trading volumes.

A Guide to Understanding Opportunities and Risks in Futures Trading

Basic Trading Strategies

Dozens of different strategies and variations of strategies are employed by futures traders in pursuit of speculative profits. Here are brief descriptions and illustrations of the most basic strategies.

Buying (Going Long) to Profit from an Expected Price Increase

Someone expecting the price of a particular commodity to increase over a given period of time can seek to profit by buying futures contracts. If correct in forecasting the direction and timing of the price change, the futures contract can be sold later for the higher price, thereby yielding a profit. If the price declines rather than increases, the trade will result in a loss. Because of leverage, losses as well as gains may be larger than the initial margin deposit.

For example, assume it’s now January. The July crude oil futures price is presently quoted at $15 a barrel and over the coming month you expect the price to increase. You decide to deposit the required initial margin of $2,000 and buy one July crude oil futures contract. Further assume that by April the July crude oil futures price has risen to $16 a barrel and you decide to take your profit by selling. Since each contract is for 1,000 barrels, your $1 a barrel profit would be $1,000 less transaction costs.

Price per barrel Value of 1,000 barrel contract
January $15.00 $15,000
$16.00 $16,000

* For simplicity, examples do not take into account commissions and other transaction costs. These costs are important. You should be sure you understand them.

Suppose, instead, that rather than rising to $16 a barrel, the July crude oil price by April has declined to $14 and that, to avoid the possibility of further loss, you elect to sell the contract at that price. On the 1,000 barrel contract your loss would come to $1,000 plus transaction costs.

Price per barrel Value of 1,000 barrel contract
January Buy 1 July crude oil futures contract $15.00 $15,000
April Sell 1 July crude oil futures contract $14.00 $14,000
Loss $1.00 $1,000

Note that if at any time the loss on the open position had reduced funds in your margin account to below the maintenance margin level, you would have received a margin call for whatever sum was needed to restore your account to the amount of the initial margin requirement.

Selling (Going Short) to Profit from an Expected Price Decrease

The only way going short to profit from an expected price decrease differs from going long to profit from an expected price increase is the sequence of the trades. Instead of first buying a futures contract, you first sell a futures contract. If, as you expect, the price does decline, a profit can be realized by later purchasing an offsetting futures contract at the lower price. The gain per unit will be the amount by which the purchase price is below the earlier selling price. Margin requirements for selling a futures contract are the same as for buying a futures contract, and daily profits or losses are credited or debited to the account in the same way.

For example, suppose it’s August and between now and year end you expect the overall level of stock prices to decline. The S&P 500 Stock Index is currently at 1200. You deposit an initial margin of $15,000 and sell one December S&P 500 futures contract at 1200. Each one point change in the index results in a $250 per contract profit or loss. A decline of 100 points by November would thus yield a profit, before transaction costs, of $25,000 in roughly three months time. A gain of this magnitude on less than a 10 percent change in the index level is an illustration of leverage working to your advantage.

S&P 500 Index Value of Contract (Index x $250)
August Sell 1 December S&P 500 futures contract 1,200 $300,000
November Buy 1 December S&P 500 futures contract 1,100 $275,000
Profit 100 points $25,000

Assume stock prices, as measured by the S&P 500, increase rather than decrease and by the time you decide to liquidate the position in November (by making an offsetting purchase), the index has risen to 1300, the outcome would be as follows:

S&P 500 Index Value of Contract (Index x $250)
August Sell 1 December S&P 500 futures contract 1,200 $300,000
November Buy 1 December S&P 500 futures contract 1,300 $325,000
Loss 100 points $25,000

A loss of this magnitude ($25,000, which is far in excess of your $15,000 initial margin deposit) on less than a 10 percent change in the index level is an illustration of leverage working to your disadvantage. It’s the other edge of the sword.

While most speculative futures transactions involve a simple purchase of futures contracts to profit from an expected price increase — or an equally simple sale to profit from an expected price decrease — numerous other possible strategies exist. Spreads are one example.

A spread involves buying one futures contract in one month and selling another futures contract in a different month. The purpose is to profit from an expected change in the relationship between the purchase price of one and the selling price of the other.

As an illustration, assume it’s now November, that the March wheat futures price is presently $3.50 a bushel and the May wheat futures price is presently $3.55 a bushel, a difference of 5¢. Your analysis of market conditions indicates that, over the next few months, the price difference between the two contracts should widen to become greater than 5¢. To profit if you are right, you could sell the March futures contract (the lower priced contract) and buy the May futures contract (the higher priced contract).

Assume time and events prove you right and that, by February, the March futures price has risen to $3.60 and the May futures price is $3.75, a difference of 15¢. By liquidating both contracts at this time, you can realize a net gain of 10¢ a bushel. Since each contract is 5,000 bushels, the net gain is $500.

November Sell March wheat @ $3.50 bushel Buy May wheat @ $3.55 bushel Spread 5c
February Buy March wheat @ $3.60 bushel Sell May wheat @ $3.75 bushel Spread 15c
$.10 loss $.20 gain

Net gain 10¢ bushel
Gain on 5,000 bushel contract $500


Stock markets are measured by stock indexes (or indices), such as the Dow Jones Industrial Average (DJIA) in New York, and the FTSE 100 index (often called the Footsie) in London. These indexes show changes in the average prices of a selected group of important stocks. There have been several stock market crashes when these indexes have fallen considerably on a single day (e.g. ‘Black Monday 5 , 19 October 1987, when the DJIA lost 22.6%).

Financial journalists use some animal names to describe investors:

■ bulls are investors who expect prices to rise

■ bears are investors who expect them to fall

■ stags are investors who buy new share issues hoping that they will be over-subscribed. This means they hope there will be more demand than available stocks, so the successful buyers can immediately sell their stocks at a profit.

A period when most of the stocks on a market rise is called a bull market. A period when most of them fall in value is a bear market.

Dividends and capital gains

Companies that make a profit either pay a dividend to their stockholders, or retain their earnings by keeping the profits in the company, which causes the value of the stocks to rise. Stockholders can then make a capital gain – increase the amount of money they have – by selling their stocks at a higher price than they paid for them. Some stockholders prefer not to receive dividends, because the tax they pay on capital gains is lower than the income tax they pay on dividends. When an investor buys shares on the secondary market they are either cum div, meaning the investor will receive the next dividend the company pays, or ex div, meaning they will not. Cum div share prices are higher, as they include the estimated value of the coming dividend.

Institutional investors generally keep stocks for a long period, but there are also speculators – people who buy and sell shares rapidly, hoping to make a profit. These include day traders – people who buy stocks and sell them again before the settlement day. This is the day on which they have to pay for the stocks they have purchased, usually three business days after the trade was made. If day traders sell at a profit before settlement day, they never have to pay for their shares. Day traders usually work with online brokers on the internet, who charge low commissions – fees for buying or selling stocks for customers. Speculators who expect a price to fall can take a short position, which means agreeing to sell stocks in the future at their current price, before they actually own them. They then wait for the price to fall before buying and selling the stocks. The opposite – a long position – means actually owning a security or other asset: that is buying it and having it recorded in one’s account.

June 1: Sell 1,000 Microsoft stocks, to be delivered June 4, at current market price: $26.20 June 3: Stock falls to $25.90. Buy 1,000

June 4: Settlement day. Pay for 1,000 stocks @ $25.90, receive 1,000 x $26.20. Profit $300

A short position

31.1 Label the graph with words from the box. Look at A opposite to help you.

bull market crash

1984 1985 1986 1987 1988

31.2 Answer the questions. Look at A, B and C opposite to help you.

1 How do stags make a profit?

2 Why do some investors prefer not to receive dividends?

3 How do you make a profit from a short position?

31.3 Make word combinations using a word or phrase from each box. Some words can be used twice. Then use the correct forms of the word combinations to complete the sentences below. Look at B and C opposite to help you.

make a capital gain
own a dividend
pay earnings
receive a position
retain a profit
take securities

1 I. less. on capital gains

than on income. So as a shareholder, I prefer

not to. a. If the

company. its. , I can

selling my shares at a profit instead.

2 Day trading is exciting because if a share price

falls, you can. a. by

. a short. But it’s risky

Would you like to be

selling. that you don’t even

The sculpture of a bull near the New York Stock Exchange

a day trader? Or would you be frightened of taking such risks?

Influences on share prices

Share prices depend on a number of factors:

■ the financial situation of the company

■ the situation of the industry in which the company operates

■ the state of the economy in general

■ the beliefs of investors – whether they believe the share price will rise or fall, and whether they believe other investors will think this.

Prices can go up or down and the question for investors – and speculators – is: can these price changes be predicted, or seen in advance? When price-sensitive information – news that affects a company’s value – arrives, a share price will change. But no one knows when or what that information will be. So information about past prices will not tell you what tomorrow’s price will be.

There are different theories about whether share price changes can be predicted.

■ The random walk hypothesis. Prices move along a ‘random walk’ – this means day-to­day changes arc completely random or unpredictable.

■ The efficient market hypothesis. Share prices always accurately or exactly reflect all relevant information. It is therefore a waste of time to attempt to discover patterns or trends – general changes in behaviour – in price movements.

Head and shoulders pattern

■ Technical analysis. Technical analysts are people who believe that studying past share prices does allow them to forecast future price changes. They believe that market prices result from the psychology of investors rather than from real economic values, so they look for trends in buying and selling behaviour, such as the c head and shoulders’ pattern.

■ Fundamental analysis. This is the opposite of technical analysis: it ignores the behaviour of investors and assumes that a share has a true or correct value, which might be different from its stock market value. This means that markets are not efficient. The true value reflects the present value of the future income from dividends.

Analysts distinguish between systematic risk and unsystematic risk. Unsystematic risks are things that affect individual companies, such as production problems or a sudden fall in sales. Investors can reduce these by having a diversified portfolio: buying lots of different types of securities. Systematic risks, however, cannot be eliminated in this way. For example market risk cannot be avoided by diversification: if a stock market falls, all the shares listed on it will fall to some extent.

32.1 Match the two parts of the sentences. Look at A and B opposite to help you.

1 The random walk theory states that

2 The efficient market hypothesis is that

3 Technical analysts believe that

4 Fundamental analysts believe that

a studying charts of past stock prices allows you to predict future changes,

b stocks are correctly priced so it is impossible to make a profit by finding undervalued ones,

c you can calculate a stock’s true value, which might not be the same as its market price,

d it is impossible to predict future changes in stock prices.

32.2 Are the following statements true or false? Find reasons for your answers in B and C opposite.

1 Fundamental analysts think that stock prices depend on psychological factors – what people think and feci – rather than pure economic data.

2 Fundamental analysts say that the true value of a stock is all the income it will bring an investor in the future, measured at today’s money values.

3 Investors can protect themselves against unknown, unsystematic risks by having a broad collection of different investments.

4 Unsystematic risks can affect an investor’s entire portfolio.

32.3 Match the theories (1-3) to the statements (a-c). Look at B opposite to help you.

1 fundamental analysis

2 technical analysis

3 efficient market hypothesis

Share prices are correct at any given time. When new information appears,

they change to a new correct price.

By analysing a company, you can determine its real value. This sometimes allows you to make a profit by buying underpriced shares.

It’s not only the facts about a company that matter: the stock price also depends on what investors think or feel about the company’s future.

Do you believe that it is possible to find undervalued stocks, predict future price and regularly get returns that are higher than the stock market average?

Government and corporate bonds

Bonds are loans to local and national governments and to large companies. The holders of bonds generally receive fixed interest payments, once or twice a year, and get their money – known as the principal – back on a given maturity date. This is the date when the loan ends.

Governments issue bonds to raise money and they are considered to be a risk-free investment. In Britain government bonds are known as gilt-edged stock or just gilts. In the US they are called Treasury notes, which have a maturity of 2-10 years, and Treasury bonds, which have a maturity of 10-30 years. (There are also short-term Treasury bills which have a different function: see Units 25 and 27.)

Companies issue bonds, called corporate bonds, because they can usually pay less interest to bondholders than they would have to pay if they raised the same money by a bank loan. These bonds are generally safer than shares, because if a company cannot repay its debts it can be declared bankrupt. If this happens, the creditors can force the company to stop doing business, and sell its assets to repay them. In this way, bondholders will probably get some of their money back.

Borrowers – the companies issuing bonds – are given credit ratings by credit agencies such as Standard & Poor’s and Moody’s. This means that they are graded, or rated, according to their ability to repay the loan to the bondholders. The highest grade (AAA or Aaa) means that there is almost no risk that the borrower will default – fail to pay interest or to repay the principal. Lower grades (e.g. Baa, BBB, C, etc.) mean an increasing risk of the borrower becoming insolvent – unable to pay interest or repay the capital.

Prices and yields

Bonds are traded by banks which act as market makers for their customers, quoting bid and offer prices with a very small spread or difference between them. (See Unit 30) The price of bonds varies inversely with interest rates. This means that if interest rates rise, so that new borrowers have to pay a higher rate, existing bonds lose value. If interest rates fall, existing bonds paying a higher interest rate than the market rate increase in value. Consequently the yield of a bond – how much income it gives – depends on its purchase price as well as its coupon or interest rate. There are also floating-rate notes – bonds whose interest rate varies with market interest rates.

Other types of bonds

When interest rates are high, some companies issue convertible shares or convertibles, which are bonds that the owner can later change into shares. Convertibles pay lower interest rates than ordinary bonds, because the buyer gets the chance of making a profit with the convertible option.

There are also zero coupon bonds that pay no interest but are sold at a big discount on their par value, which is 100%, and repaid at 100% at maturity. Because they pay no interest, their owners don’t receive money every year (and so don’t have to decide how to reinvest it); instead they make a capital gain at maturity.

Bonds with a low credit rating (and a high chance of default), but paying a high interest rate, are called junk bonds. Some of these are known as fallen angels – bonds of companies that were previously in a good financial situation, while others are issued to finance leveraged buyouts. (See Unit 40)

BrE: convertible share; AmE: convertible bond

33.1 Match the words in the box with the definitions below. Look at A and B opposite to help you.

coupon maturity date
credit rating principal
gilt-edged stock Treasury bonds
default Treasury notes
insolvent yield

1 the amount of capital making up a loan

2 an estimation of a borrower’s solvency or ability to pay debts

3 bonds issued by the British government

4 non-payment of interest or a loan at the scheduled time

5 the day when a bond has to be repaid

6 long-term bonds issued by the American government

7 the amount of interest that a bond pays

8 medium-term (2-10 year) bonds issued by the American government

9 the rate of income an investor receives from a security 10 unable to pay debts

33.2 Are the following statements true or false? Find reasons for your answers in A, B and C opposite.

1 Bonds are repaid at 100% when they mature, unless the borrower is insolvent.

2 Bondholders are guaranteed to get all their money back if a company goes bankrupt.

3 AAA bonds are a very safe investment.

4 A bond paying 5% interest would gain in value if interest rates rose to 6%.

5 The price of floating-rate notes doesn’t vary very much, because they always pay market interest rates.

6 The owners of convertibles have to change them into shares.

7 Some bonds do not pay interest, but are repaid at above their selling price.

8 Junk bonds have a high credit rating, and a relatively low chance of default.

33.3 Answer the questions. Look at A, B and C opposite to help you.

1 Which is the safest for an investor?

A a corporate bond B a junk bond C a government bond

2 Which is the cheapest way for a company to raise money?

A a bank loan B an ordinary bond C a convertible

3 Which gives the highest potential return to an investor?

A a corporate bond B a junk bond C a government bond

4 Which is the most profitable for an investor if interest rates rise?

A a Treasury bond B a floating-rate note C a Treasury note

Is this a good time to buy bonds? Why/why not?

Forward and futures contracts are agreements to sell an asset at a fixed price on a fixed date in the future. Futures are traded on a wide range of agricultural products (including wheat, maize, soybeans, pork, beef, sugar, tea, coffee, cocoa and orange juice), industrial metals (aluminium, copper, lead, nickel and zinc), precious metals (gold, silver, platinum and palladium) and oil. These products are known as commodities. Futures were invented to enable regular buyers and sellers of commodities to protect themselves against losses or to hedge against future changes in the price. If they both agree to hedge, the seller (e.g. an orange grower) is protected from a fall in price and the buyer (e.g. an orange juice manufacturer) is protected from a rise in price.

Futures are standardized contracts – contracts which are for fixed quantities (such as one ton of copper or 100 ounces of gold) and fixed time periods (normally three, six or nine months) – that are traded on a special exchange. Forwards are individual, non- standardized contracts between two parties, traded over-the-counter – directly, between two companies or financial institutions, rather than through an exchange. The futures price for a commodity is normally higher than its spot price – the price that would be paid for immediate delivery. Sometimes, however, short-term demand pushes the spot price above the future price. This is called backwardation.

Futures and forwards are also used by speculators – people who hope to profit from price changes.

More recently, financial futures have been developed. These are standardized contracts, traded on exchanges, to buy and sell financial assets. Financial assets such as currencies, interest rates, stocks and stock market indexes fluctuate – continuously vary – so financial futures are used to fix a value for a specified future date (e.g. sell euros for dollars at a rate of € 1 for $1.20 on June 30).

■ Currency futures and forwards are contracts that specify the price at which a certain currency will be bought or sold on a specified date.

■ Interest rate futures are agreements between banks and investors and companies to issue fixed income securities (bonds, certificates of deposit, money market deposits, etc.) at a future date.

■ Stock futures fix a price for a stock and stock index futures fix a value for an index (e.g. the Dow Jones or the FTSE) on a certain date. They are alternatives to buying the stocks or shares themselves.

Like futures for physical commodities, financial futures can be used both to hedge and to speculate. Obviously the buyer and seller of a financial future have different opinions about what will happen to exchange rates, interest rates and stock prices. They are both taking an unlimited risk, because there could be huge changes in rates and prices during the period of the contract. Futures trading is a zero-sum game, because the amount of money gained by one party will be the same as the sum lost by the other.

34.1 Match the words in the box with the definitions below. Look at A opposite to help you

backwardation commodities forwards futures
to hedge over-the-counter spot price

1 the price for the immediate purchase and delivery of a commodity

2 the situation when the current price is higher than the future price

3 adjective describing a contract made between two businesses, not using an exchange

4 contracts for non-standardized quantities or time periods

5 physical substances, such as food, fuel and metals, that can be bought or sold with futures contracts

6 to protect yourself against loss

7 contracts to buy or sell standardized quantities

34.2 Complete the sentences using a word or phrase from each box. Look at A and B opposite to help you.

u banks v companies w farmers

A Commodity futures allow B Interest rate futures allow C Currency futures allow

x food manufacturers y importers z investors

1 to charge a consistent price for their products.

2 to be sure of the rate they will get on bonds which could be

issued at a different rate in the future.

3 to know at what price they can borrow money to finance

4 to make plans knowing what price they will get for their crops.

5 to offer fixed lending rates.

6 . to remove exchange rate risks from future international

34.3 Are the following statements true or false? Find reasons for your answers in B opposite.

1 Financial futures were created because exchange rates, interest rates and stock prices all regularly change.

2 Interest rate futures are related to stocks and shares.

3 Financial futures contracts allow companies to protect themselves against short-term changes in exchange rates.

4 You can only hedge if someone who expects a price to move in the opposite direction is willing to buy or sell a contract.

5 Both parties can make money out of the same futures contract.

Look at some commodity prices, and decide if you think they will rise or fall over the next three months. Check in three months 1 time to see if you would have made or lost money by buying or selling futures.

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