To make more of warehouse receipts: what can exchanges do? By: Lamon Rutten Coordinator, commodity marketing, risk management and finance United Nations Conference on Trade and Development Forward Markets Commission/UNCTAD/ associated commodity exchanges Workshop: Commodity financing and building a warehouse receipt system for India Mumbai, June 1999

Overview What do the actors in commodity trade need? Are warehouse receipts useful? When are warehouse receipts really useful? Different models for the exchange to provide a warehouse receipt system Conclusions

GOODS MONEY Flexibility Efficiency What do actors in commodity trade need?

GOODS Flexibility: in the timing of sales; in the place of sales. Efficiency: in storage; in quality maintenance; in moving goods from place of production to place of consumption; in using processing capacity. What do actors in commodity trade need?

MONEY Flexibility: getting money in time to the place where it is most needed Efficiency: low financing costs

Warehouse receipts can provide what actors in commodity trade need: Flexibility : in the timing of sales: more freedom to choose between storage and sale in the place of sales: warehouse receipts are easy to transmit in financial management: credit availability linked to credit needs. Efficiency : in storage and in quality maintenance: specialized companies take over in transport: no more need to ship goods around until a buyer is found in using processing capacity: easy to build up enough stocks low financing costs, because warehouse receipt credit is safe.

When are warehouse receipts really useful? Warehouse receipts provide larger economic benefits if they can be more easily and more flexibly used, through a network rather than through bilateral contacts. WarehouseBorrower Bank deposit w.r. w.r., after individual negotiations CLOSED SYSTEM OPEN SYSTEM Borrower Open market Sale or pledging of w.r.

Exchanges can provide the basis for such a public network The possibility of trading warehouse receipts through a public network provides additional benefits in terms of: - location: the physical market place is enlarged - market accessability - market liquidity: instruments become useful for new groups

The results of an efficient integration of exchanges and warehouses through a modern information/communication system: No unnecessary movement of goods Storage is at lowest possible cost A market is always readily available Easy adaptation to new market conditions low likelihood of price distortions

Is this a pipedream? If not, how do you get there? Exchanges already have part of the system in place: a mechanism to vet warehouses the possibility, through their clearing houses, to guarantee warehouse receipts clear and enforceable quality standards presence of major market players a (primitive) info/communications network.

What can an exchange do to enhance their business through the use of warehouse receipts: a few models Warehouses Exchanges

Using commodity exchanges to enlarge effective marketing areas Conditions: - standardization of quality descriptions into specific grades, and - standardization of the documentation used. Farmer Exchange warehouse Commodity exchange 1. Deposits products 2. The warehouse receipt is (electronically) transferred to the exchange and auctioned off. 3. The highest bidder gets the products, and the farmer is paid

The exchange as “underwriter” of the warehouse receipt system Small traders Large traders Banks Commodity exchange Warehouse company 3. Deposits products 1. Approves warehouse 2.Guarantees warehouse 4.Issues receipts 5.Lodges receipts with bank 6. Provides credit 7a.Sign sales contract 8a. Reimburses credit; in return, bank transfers receipts 9. Delivers receipt; warehouse makes delivery Note: farmers can also use the scheme Clearing house 7b. Delivery through exchange

Agricultural or agro-industrial firm Recognized warehouse 1. Deposit of goods 2. Issuance of warehouse warrants Broker 3. Transfer of warrant, with the agreement to buy it back after a certain period National Agricultural Exchange Investor/bank 4. Warrant is given in custody of Exchange 5. Open outcry bids on the interest rate for loans secured by the warrant 6. Credit Trading warrants as credit instruments

Even more flexibility: the Brazilian model Farmers Exchange- approved warehouse Commodity exchange 1. Deposits products 3. The warehouse receipt is transferred to the bank, which gives a credit. 5. Farmers observe commodity exchange prices, and can sell whenever they want, through an electronic network linking the countries’ exchanges. Bank 2. Issues receipts Secondary market 4. The bank gives its “aval”, which makes trade of the receipts on the secondary market possible.

Conclusion: the way forward The synergy of exchanges, warehouses and a modern information/communication system will make it possible to cross over into a new era for agriculture. conclusion exchanges warehouses communications Bridging the efficiency gap Being flexible and profitable Being slow and uncompetitive

For further information please contact: Lamon Rutten Coordinator, commodity marketing, risk management and finance United Nations Conference on Trade and Development 1211 Geneva 10, Switzerland Tel. (41 22) / 5755 / 5014 Fax (41 22) UNCTAD’s work in the area of commodity risk management and finance: - organizing international policy meetings on commodity risk management and finance. - reports, advice, training materials, training seminars and conferences on structured commodity finance, including warehouse receipt finance - reports, advice, training materials, and training seminars on commodity price risk management - advice to emerging commodity exchanges - advice to Governments on price risk management practices; use of modern financial instruments to support policy liberalization; and legal and regulatory structures affecting the use of risk management and structured finance markets.