Follow the full progression from economic fundamentals to basis trading and risk-adjusted freight decisions.
The source manuscript is parsed at build time. Figures, equations and complex tables are being upgraded progressively into web-native formats.
In December 2024, one of the authors met a group of wheat traders at the European Commodities Exchange in the Grand Palais in Paris. During the discussion, a simple but revealing question emerged: why does freight remain difficult for many commodity traders to use in practice?
A model often evokes images of dry, academic procedures. Yet, the aim of this book is more pragmatic. It offers a mental model of freight trading inside commodity supply chains. The goal is to bridge the gap between random guesswork and systematic reasoning rooted in economic theory. When applied consistently, this model functions as an "operating system" for navigating a market that is complex, competitive and highly interdependent.
This part of the book introduces a small set of economic assumptions that we will use as a practical lens for freight trading inside commodity supply chains. The aim is not to prove any theory, but to offer readers a baseline for understanding freight and commodity markets. Further reading is recommended, and the bibliography of this book is a good place to start.
Traders form a view on whether to buy or sell in the market by analysing the supply vs. demand balance. In trading jargon, this is a [[em]]balance sheet[[/em]]. It is not an accounting balance sheet that records the assets, liabilities and shareholders’ equity of a company at a specific point in time. A trading balance sheet is a market accounting framework. It tracks available supply, expected demand, and whether conditions are tightening or loosening.
[ch:04-balance-sheets] introduced balance sheets as a way to understand the supply and demand balance in the market. A balance sheet can show the market imbalance, but it does not automatically create profit. The trader's next task is more practical: transform this market imbalance into a margin.
The previous chapter showed how balance sheets help traders identify local balance divergence from the market reference. This chapter explains how such divergence - known in trading terms as basis - can be managed and traded. Basis is the difference between the cash (spot) price of a commodity and its corresponding futures price [Nijs2014]. Mathematically, it can be expressed as:
Previous chapters showed how commodity and freight traders create value through space, time and form, and how basis explains the gap between physical prices and benchmark prices. In practice, however, not every exposure can be perfectly hedged. The trader must therefore measure the residual basis risk, determine whether it remains within the company's approved risk limits, and decide what premium is required for accepting that risk. This section develops a VaR based framework for cargo positions in which traders are looking to sell freight.
The question that began this book was why freight remains difficult for many commodity traders to use in practice. The answer is not that freight is a separate and unusually technical market. It is that freight consists of multiple pricing components and is often introduced after the commodity decision, when it should be part of the decision from the first price.