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Factors affecting forward pricing behaviour: Implications of alternative regression model specifications

Explore the implications of alternative regression model specifications in the South African agricultural sector after the end of state intervention. Examine why farmers are reluctant to use forward pricing methods and compare different modeling approaches. Highlight the importance of risk aversion and the need to separately model adoption and quantity decisions.

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Factors affecting forward pricing behaviour: Implications of alternative regression model specifications

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  1. Factors affecting forward pricing behaviour: Implications of alternative regression model specifications By H Jordaan and B Grové

  2. Outline • Introduction • Data and Procedures • Results • Conclusions

  3. Introduction • SA agricultural sector experienced long history of state intervention (1930s to mid 1990s) • Period of regulation ended with Marketing of Agricultural Products Act of 1996 ordering demise of control boards • Farmers became responsible for marketing of their own produce • Became exposed to price risk

  4. Introduction (Cont…) • Three markets emerged for grain in SA • Cash (spot) mkt • Forward contracting mkt • Derivatives mkt (Futures & options) • Although forward pricing can reduce price risk few farmers tend to use it (both in South Africa and internationally) Forward pricing

  5. Introduction (Cont…) • Some researchers expected growth in the use of forward pricing (i.e. due to learning curve effect) • From the literature growth is lacking • Ample research was done to determine why producers do not use forward pricing methods

  6. Introduction (Cont…) • Number of different modelling specifications were used over the years • Tobit models • Multinomial logit models • Binary models (Logit & Probit) • Two-step approach • Binary sub-model (Adoption decision) • Linear sub-model (Quantity decision) Single decision Separate decisions

  7. Introduction (Cont…) • PROBLEM – If variables are forced to influence decision in certain way • May overlook important factors restricting use of forward pricing methods • May also explain lack of growth in use of forward pricing methods

  8. Introduction (Cont…) • OBJECTIVE • Compare results from three model specifications • Determine implications of alternative model specifications in the South African context • Single decision vs Separate decisions

  9. Data and Procedures • Used primary data from study by Jordaan & Grové (2007) • Questionnaire survey conducted (October 2005) • 78 randomly drawn farmers were personally interviewed • 50 produced maize • 22 used forward pricing methods

  10. Data and Procedures (Cont…) • SINGLE DECISION framework – dependent variable specified as proportion of crop which is forward priced • Non-adopters forward priced 0% of their crop • 56% did not use forward pricing methods • Dependent variable is censored at threshold of 0 • Need model that can effectively model censored dependent variable

  11. Data and Procedures (Cont…) • Tobit model relates observed outcomes of yi > 0 to an index function (Heij et al., 2004): Where if if

  12. Data and Procedures (Cont…) • Second and third specifications relate to TWO-STEP approach • 1) Adoption decision – • binary choice whether or not respondent used forward pricing methods • binary logit regression

  13. Data and Procedures (Cont…) • 2)Quantity decision • choice on proportion of crop that is forward priced, CONDITIONAL TO RESPONDENT HAVING USED FORWARD PRICING METHODS • OLS regression

  14. Data and Procedures (Cont…)

  15. Data and Procedures (Cont…)

  16. Two-step approach Results NA NA NA

  17. Results

  18. Results

  19. Results

  20. Results

  21. Results

  22. Results

  23. Results - + + + -

  24. Conclusions • Modelling forward pricing behaviour as single decision assumes same variables influence two forward pricing decisions • This assumption is again proven wrong in this study • Importance of risk aversion is again highlighted • Only significant factor in all three specifications • Confirms findings by McNew and Musser (2000)

  25. Conclusions (Cont…) • TOBIT specification fails to expose • producers’ perception that forward pricing is risky marketing alternative • adopters of forward pricing methods tend to use portfolio of risk management tools

  26. Conclusions (Cont…) • Conclusions based on results where variables are forced to influence two decisions similarly may • overlook restrictive impact of certain factors on the use of forward pricing methods • explain the lack of growth in the use of forward pricing methods

  27. Conclusions (Cont…) • Thus, study provides more evidence that quantity decision should be modelled conditional of rather than jointly with adoption decision (Katchova & Miranda, 2004)

  28. Thank You!!

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