The principal purpose of a hedger using futures contracts is to:

The principal purpose of a hedger using futures contracts is to:

• A. Lock in a price to reduce uncertainty
• B. Guarantee profit
• C. Increase storage costs
• D. Delay sales until prices rise

Answer: (A)

The key idea is that hedging with futures is about reducing price uncertainty by locking in a price for a future sale or purchase. A producer who will sell a crop uses futures to set a future price now, so revenue becomes more predictable. If cash prices drop, gains from the futures position help offset the lower selling price; if cash prices rise, the futures may lose value, offsetting some of the higher cash income. This stabilizes cash flow rather than aiming for a profit or timing the market. Hedging does not guarantee profit, since there’s basis risk (the futures price doesn’t move perfectly in line with the cash price) and margin costs. It also isn’t about increasing storage costs, and delaying sales in hope of higher prices is speculative, not hedging.

The key idea is that hedging with futures is about reducing price uncertainty by locking in a price for a future sale or purchase. A producer who will sell a crop uses futures to set a future price now, so revenue becomes more predictable. If cash prices drop, gains from the futures position help offset the lower selling price; if cash prices rise, the futures may lose value, offsetting some of the higher cash income. This stabilizes cash flow rather than aiming for a profit or timing the market.

Hedging does not guarantee profit, since there’s basis risk (the futures price doesn’t move perfectly in line with the cash price) and margin costs. It also isn’t about increasing storage costs, and delaying sales in hope of higher prices is speculative, not hedging.