Futures Trading, Storage, and the Division of Risk: A Multiperiod Analysis

David Hirshleifer

Economic Journal, September 1989


This paper analyzes the interaction of storage and futures trading when producers make decisions covering many harvests. In this more general context, by examining how risks are distributed between storers and growers, results are obtained that differ dramatically from previous models in the literature. When storage is costly, storers may reduce risk by taking long hedging positions, rather than selling inventories short. Contrary to the conventional view (in a tradition beginning with J. M. Keynes and J. R. Hicks), costless storage does not imply downward bias of futures prices (“normal backwardation”). Hedging against the optimally varying planting costs promotes upward price bias (“contango”), while hedging against storage costs to be incurred promotes downward bias. When the risks faced by growers and storers are negatively correlated, futures trading can substitute for vertical integration as a means of reducing risk.

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