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For FFAs to work as a long-term market, there must be more to them than just a self-interest
in buying low and selling high on headline or sentiment-driven pricing.
So what creates the freight derivatives market? Part of the answer lies in the mutual,
but opposite interests of the natural buyer (Charterer) and the natural seller (Owner)
in the shipping market and the opportunities these creates for the Trader or Operator
in the middle. It was largely these tensions which helped Clarksons when the idea
of Forward Freight Agreements was pioneered in 1991.
Freight has become a major factor in the costing up of dry commodities over the
past few years. To counteract the effect of freight rate fluctuations, FFAs offer
an opportunity to hedge and trade specific routes and the time charter average as
a financial tool.
Capesize, Panamax, Supramax and Handysize are the four standard vessel sizes (in
descending order) and they carry dry bulk cargoes from round the world. They are
each represented by the Baltic Time Charter Indices – BCI, BPI, BSI and BHSI - which
form the basis for trading freight swaps. Please see
Indices for more details.
The concept of swapping financial risk is widely used in commodity, currency and
interest rate markets and has a proven track record. These contracts are easy to
execute and they offer the convenience of cash settlement and confidence in the
indices. FFAs have enjoyed substantial growth since inception and the trend looks
set to continue.
A hedger of the freight markets will often regard the minimum FFA trade as being
at least half of one full cargo for his vessel for it to achieve commercial relevance;
a sentiment trader may be very happy to back the perceived market direction in reduced
quantity. FFAs trade in various sizes from typical 5 days per months to full contracts
of 30/31 calendar days per month.
Spread trading is used to take advantage of market direction and the proportional
freight differential between the sizes. For instance, if the physical Capesize market
moves up, the spread to Panamax freight rates will widen and facilitate selling
the spread. This type of relationship works all the way down the line of sizes;
between Panamax and Supramax and between Supramax and Handies. Similarly, when a
spread narrows, spreaders will buy into it.
As liquidity of the FFA market increased, Clarkson Securities also introduced Options
trading on freight. For further information see
FFA Options.
FFAs are only concerned with the dollar value of the freight - not the logistics
of shipping cargoes. In the near perfect world of FFAs, there are no weather delays
or strikes – as in fact there is no option of physical delivery.
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