Commodity forwards- convenience yield

[gtamfreak]

I have some trouble in understanding the assymetric impact that convenience yield has on the no-arbitrage forward price: Schweser states that an arbitrageur who wihses to buy the underlying commidity for a cash and carry has no convenience yield to factor in. Ignoring the convenience yield creates the maximum forward price.
Why is the convenience yield zero here? And what is the meaning of this statement?
Thanks.

 

[janakisri]

prices for commodities are often set at the margin. e.g. crude oil price is set at the price of the last traded barrel . Now if you’re a speculative investor , you have no actual use for the commodity other than to derive a profit , for the cost of financing and storing the stuff. But if you’re a hedger such as a refinery , you definitely have an incentive to have the commodity available to use when you need it ( such as now ) . You will pay more to get it and demand more to sell it .
So the price is really set according to who is dominant at the time ( speculator or hedger) and their distinct needs

 

[sabiran]

I do agree with janaskiri that the convenience only has value for a someone who psychically invest in commodities (eg producer) and not an hedger. so the hedger pays convience yield but does not earn it when holding the commodity. So the impact it has on a the price is that you get a price range instead of a single price. So I do not think the price is set according to who is dominant at the time. We have to accept that is has impact on the price.

 

[1recho]

Here is my understanding. The producer does not have a convenience yield and would gladly sell it in the future for a higher price F = S * e^(-lt) where l = storage costs. So would a speculator. The consumer on the other hand has a convenience yield for the commodity, will enjoy the advantage and convenience of having it at hand, and would not mind selling it for less at F = S*e^([l-c]t) where c = convenience yield. Analogous to an investor holding two identical stocks except when one pays a dividend and the other does not. The dividend-paying stock will have a lower futures price because some of its gains are realized while you cash-and-carry it.

 

[janakisri]

saibiran is correct . The convenience yield seems to be a device to explain why prices are not explained purely from a perspective of consumption deferral and storage cost .
While it is undoubtedly the case that some parties have a convenience yield , since the variable itself is un-observable,i.e. quantifiable , we have to guess that that’s why the prices are different.