Does hedging in futures market benefit Indian farmers?

Abstract

Purpose – The purpose of this paper is to perform an analysis of potential benefits from usage of the futures markets for the farmers. The national commodity exchanges were established in India in the year 2003-2004. Though there has been a spectacular growth in trading volumes in these exchanges, participation of farmers in these markets has been very low. Efforts are being made to increase the awareness and participation of farmers in these markets. As such efforts are being made, it is critical to analyse the potential benefits from usage of the futures markets for the farmers. Our study performs such an analysis for soybean farmers in the Dewas district of Madhya Pradesh state in India. Design/methodology/approach – The authors estimate the optimal hedge ratios in futures markets for farmers in different scenarios characterised by varying levels of different parameters relevant to the farmer. For these optimal hedge ratios, we then estimate the benefits from hedging defined as the change in certainty equivalent income (CEI) due to hedging. Findings – Results indicate that the CEI gain due to hedging is positively related to the farmer’s risk aversion and inversely related to farmer’s price expectations and transaction costs. Also, only when the risk aversion is high, the CEI gain is positively related to the natural hedge. Thus, for a farmer with high risk aversion, hedging acts as a substitute to the natural hedge. Originality/value – This is the first study that analyses the hedging for farmer in the Indian context by considering yield risk while doing so. Also, their study establishes a relationship between risk aversion, the natural hedge and benefits from hedging in futures markets for the farmer.