In the middle of the global financial crisis NZX launched Dairy Futures.
It had become a way for New Zealand milk customers to hedge against financial shocks, Jenkins told an agribusiness audience at Christchurch law firm Tavendale and Partners last month.
“It was originally intended and built for farmers here in NZ to use, to manage milk price risk, but what’s ended up happening is our customers around the world are actually using it.”
Farmers were tending to sell their milk forward using products like Fonterra’s guaranteed milk price. Companies were basically doing the same with Dairy Futures, Jenkins said.
NZX describes futures contracts as a commitment to make or take delivery of a specific quantity and quality of a given asset at a specific date in the future at a price agreed. All terms of the contract are standardised, other than the price.
Jenkins said the use of derivatives, or futures, to reduce price volatility was common overseas, especially in the United States, where at the start of a season a high-input dairy farmer could pay for their looming grain requirements and also lock in their milk price.
By knowing their input costs and milk return from the outset they could be sure of their farming margin.
That sort of sophistication was starting to happen in NZ, with Fonterra offering it through the guaranteed milk price and North Island farmers doing it with grain and palm kernel, Jenkins said.
He also offered a view on NZ dairying in China.
That country had overtaken Australia as NZ’s largest trading partner and there was always a question whether it could sustain its consumption of NZ dairy products considering its debt level and growth expectation, he said.
“Now they’re expected to grow this year at 7.3%. To give you an idea, that’s essentially adding the economy of Switzerland to the word this year, just on China’s growth.”
That growth was about four times the size of the NZ economy – and China had been growing like that, at about 10% annually, for about 21 years.
At that pace the combined economies of China and India would be larger than the current G7 group of powerhouses by 2025 and the trend had implications for NZ dairy, Jenkins said.
Twenty per cent of NZ dairy exports go to China, at a time when the Chinese consume less than a kilogram of cheese annually per capita, compared to NZ at almost 10kg and the French at about 26kg.
The Treasury said in a report last year cheese was a particularly strong prospect for NZ exporters to China.
Figures from the United Nations Food and Agriculture Organisation indicated that of the various dairy products, China’s consumption of skim milk powder (SMP) and cheese was most likely to increase in the near term. China was well behind other countries with a similar culture and income.
“Japan and Korea have SMP and cheese consumption per capita that is five times greater than China,” The Treasury said.
“If China follows a comparable path to Korea or Japan, its consumption of SMP and cheese will grow significantly in coming years as its GDP per capita grows.”
MORE: The NZ Treasury report on China growth and its impact on NZ exports
What are Futures?
NZX says the benefits of trading futures include virtual elimination of counterparty credit risk, ability to set prices in advance, and an ability to adjust volume in the open market.
NZX Dairy Futures were cash settled, meaning greater flexibility and enabling increased volume from speculators and hedgers.
Cash settlement of a futures contract meant participants didn't have to implement complicated delivery mechanisms or risk having to make, or take, delivery of a product when trading in the futures market.
NZX said cash settlement was particularly preferable for dairy commodities, where food safety criteria, and the actual delivery process, was complex and not globally standardised.
