‘Commodity Price Risk’ :
It is the threat that a change in the price of a production input will adversely impact a producer who uses that input. Commodity production inputs include raw materials like cotton, corn, wheat, oil, sugar, soybeans, copper, aluminum and steel. Factors that can affect commodity prices include political and regulatory changes, seasonal variations, and weather, technology and market conditions. Commodity price risk is often hedged by major consumers
Unexpected changes in commodity prices can reduce a producer’s profit margin, and make budgeting difficult. Fortunately, producers can protect themselves from fluctuations in commodity prices by implementing financial strategies that will guarantee a commodity’s price (to minimize uncertainty) or lock in a worst case-scenario price (to minimize potential losses). Futures and options are two financial instruments commonly used to hedge against commodity price risk
Other Important Risks: Mismatch Risk (Gap Risk):
Banks as important players in the financial sector acquire funds in the form of deposits from public (individuals/ corporates) and deploy them to (individuals/ corporates) as loans and advances. The funds accepted/borrowed are reflected as liabilities and the funds deployed/lent/invested appears as assets in the balance sheets. Depending upon the business model, the liabilities and assets will have a mismatch or gap between them. In case of Foreign Exchange Operations, the Foreign Exchange dealer’s position (exposure) in various currencies arises due to the purchase and sale of foreign currencies in different markets, and for different maturities. The mismatch in maturities between purchases/sales creates a gap. These gaps can be classified based on the time period of maturity (due dates). Therefore, to cover these (exposures) open positions banks need to buy or sell/borrow or lend in the market, depending upon the price of currencies (exchange rates) and interest rates.