Understanding Risk in Basis Contracts

Basis contracts are marketing instruments that establish the basis (the difference between the local cash price and futures price) used to determine the cash price paid for grain or soybeans at a later time. In crop marketing, basis = the cash price – the futures price, or written another way, cash = futures + basis. Crop marketing contracts have three basic forms. A cash contract sets the cash price (and therefore, the basis and futures price as well) paid for crops. A futures contract, such as a hedge or hedge-to-arrive contract, locks in the futures prices, but leaves the basis and final cash price still undetermined. A basis contract allows an individual to lock in the basis level before establishing the final futures or cash price