Can someone Explain Commodity Swaps

I've been considering learning more about underlying assets with Financial Regulation Courses and while I was reading up on it I came across Commodity swaps by accident. Can anyone expand on it please?

Reply 1

Hedgerow12

Original post by superhockey

the best way to understand this concept is through an example.

A coal power station requires coal to produce electricity. Coal is a commodity and is at risk of price fluctuation due to changes to supply and demand. Because the power station doesn't want to be caught out by a sudden hike in coal prices they can set up a deal with a bank to buy coal at a price of £50/ton and the bank covers the gap to the floating price. So if the winter comes and there is more demand for coal the price may rise to 60£/ton.

By agreeing to a fixed price of £50/ton with the bank, the power station is shielded from price increases because, when coal prices rise to £60/ton, the bank covers the £10 difference.
Likewise, if coal prices fall below the fixed rate, the power station compensates the bank for the difference. This setup keeps the power station’s costs stable, letting it budget more reliably while the bank assumes the price fluctuation risk.

Reply 2

superhockey

Hey man thanks that's really helpful! Do you know anything about Green Hushing?

Reply 3

Hedgerow12

Original post by superhockey

Hey man thanks that's really helpful! Do you know anything about Green Hushing?

Do you mean green washing? its when companies tend to downplay their negative environmental impact through marketing.

Reply 4

xavi cobble

A commodity swap is an agreement between two parties to exchange payments based on a fixed price and a variable market price for a commodity. It helps producers manage the risk of falling prices and consumers manage the risk of rising prices.