For years, the Chicago SRW Wheat contract has been the contract of choice to use as a hedging mechanism not only for US producers, but also international producers, mainly as a reflection of increased liquidity. However, since the CME Group acquired the Kansas City Board of Trade, volumes in the KC Hard Red Winter Wheat contract have been trending upward, and the spread markets have become considerably more liquid over the past few years. Ample stocks, coupled with the stability of the market have allowed more volume to transact on a daily basis, allowing hedgers to utilize and roll their HRW shorts via the KC HRW contract, rather than depending on the Chicago SRW contract due to liquidity concerns.
The KC HRW contract represents trading opportunities for both hedgers and speculators alike. The US produces significantly more HRW than SRW; the latest WASDE report illustrates the large discrepancy in the size of not only production of SRW vs HRW, but also exports, and total domestic use.
With good supplies on hand over the past few years, despite a quality premium in HRW vs SRW, KC HRW wheat prices have briefly dipped below the SRW values. This has historically been a rare occurrence, and as evidenced in the chart, and the quality premium has e-nsured that this type of relationship is generally short lived. An advantage of the KC HRW Wheat contract is that it is deliverable via its own contract specifications, or against the Chicago SRW contract at a slight discount. Although the KC HRW contract represents a higher quality wheat, market forces can cause momentary disruptions to the premiums normally afforded to the KC HRW wheat, and the flexibility in the delivery mechanism allows commercial participants to take advantage of those disruptions. This type of delivery – KC HRW against a Chicago SRW futures position – has happened a few times over the last year specifically to take advantage of this pricing discrepancy.
This space intentionally left blank.