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Dairy - Liquid Powder

Key highlights

NZX WMP futures have made much progress towards becoming a liquid dairy futures benchmark.
With WMP's success no accident in our view.
A well-functioning WMP futures market will have several benefits for the dairy industry.

Report prepared by:

Nathan Penny, ASB Rural Economist
Phone: +64 9 448 8778
Email: nathan.penny@asb.co.nz


The global dairy market has expanded rapidly in the past decade as many more people around the world enjoy the more, and better, food they can now afford.  New Zealand dairy’s growth has been instrumental in this process as a larger cross-border flow of dairy, especially in Whole Milk Powder (WMP), has evolved to facilitate the demand from new customers.  A new market needs new infrastructure to support that.  Global Dairy Trade has facilitated the development of the physical market.  Price volatility is generating a demand for hedging products that, in turn, would require a liquid derivative market.  NZX’s WMP futures are the strong candidate to fulfil that role. 

NZX WMP futures have made the most progress among the dairy futures towards becoming a liquid benchmark.  Trading volume and open interest have grown substantially and have developed in important ways that promote liquidity too.  Open interest and trading volumes are increasing earlier.  And the trading volumes reflect seasonal supply.  NZX WMP futures are also providing better guidance to GDT auction outcomes. 

The success of WMP as the product vehicle is no accident in our view.  WMP is the product most likely to succeed.  WMP neatly sidesteps the perishability issues faced by other dairy products.  WMP involves the least commitment to particular product for producers.  WMP, reflecting its homogeneity, has the widest range of users too. 

NZX WMP futures meet most of the criteria for the design of a successful futures contract.  The one area that needs further development is liquidity.  The futures still lack the ease of transacting that would justify a “liquid” tag.  In our view the industry needs to focus its attention on facilitating the NZX’s WMP futures’ journey to becoming liquid.  Changes may be necessary.  One suggestion we make here is to reduce the number of contracts offered within a calendar year to better aggregate liquidity.  We are sure there are plenty of other suggestions floating around the industry. 

A well-functioning WMP futures market – a representative price established in a liquid market – would eventually benefit other dairy products.  Such a benchmark price could become a utility for pricing all dairy products.  WMP supply and demand quickly reflects any excess or shortage in milk supply so that translates into WMP prices almost immediately.  With a well-functioning market, price spreads between WMP and other products would become more standardised and trade within established ranges most of the time.  In time, as the reliability of the process is demonstrated, WMP futures could become the basis for fixed or floating price contracts with agreed spreads for different products. 

A well-functioning WMP futures market would have several benefits for the industry.  Processors would have the means to fix the prices for a greater proportion of their throughput ahead of time.  Moreover they can set the price of an easily saleable product.  Consumers (i.e. food processors that use WMP in their products) too gain access to a forward price-setting mechanism.  Both would also gain from being able to commit to forward quantities but without setting a price (or vice versa).  Prices can be set later at benchmark prices or either party can set the price ahead of time without needing the others agreement to do so.  A transaction’s price and quantity components become separated with all the flexibility that provides to both sellers and buyers. 


Read the full PDF Report

Important Disclaimer - The views expressed herein are those of the authors and are based on information believed but not warranted to be correct. Any views or information, whilst given in good faith, are not necessarily the views of ASB Bank Limited and are given with an express disclaimer of responsibility and no right of action shall arise against any of the authors, ASB Bank Limited or its employees either directly or indirectly out of any views, advice or information.
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