The name is absent



SOUTHERN JOURNAL OF AGRICULTURAL ECONOMICS

JULY, 1989


A COMMODITY MARKET SIMULATION GAME FOR
TEACHING MARKET RISK MANAGEMENT

James N. Trapp

Abstract

The Market Risk Game is a computerized
simulation game available for IBM PC and
Apple II microcomputers that is designed to
give realistic practice in making decisions in a
risky market environment. It illustrates the
use of hedging and put options to reduce risk
in livestock and grain markets. It is best
suited for individuals who have a basic
understanding of commodity trading, but who
need experience to solidify their knowledge to
a functional level. Through the game, this is
done without facing the risk of an actual in-
vestment or requiring the time involved in
watching a market over an extended period.

Key words: risk, hedging, options, simulation,
game, marketing.

Coping with market risk is a fact of life for
livestock and grain producers. The Market
Risk Game is a computerized simulation game
designed to give its players realistic practice
in making decisions in a risky market environ-
ment. It focuses on the use of hedging and
commodity put options as risk-reducing
marketing alternatives for livestock and grain
producers. It is likely best suited for players
who have a basic understanding of hedging
and put options trading, but who need ex-
perience and practice to solidify their
knowledge and confidence to a functional
level. The game is designed to allow players to
develop a “feel” for the usefulness and limita-
tions of outlook information, futures market
contracts, and commodity options. Through
the game, this can be done without facing the
risk of actual dollar investments or requiring
the time involved in watching the actual
market over extended periods. It, of course,
cannot be a substitute for actual market ex-
perience. But experience has shown that pro-
ducers need some type of realistic learning ex-
ercise before they actually use the futures
market. The Market Risk Game is designed to
provide a useful learning tool for this stage of
the process of learning to cope with market
risk.

TRADITIONAL VS. COMPUTER
SIMULATION TEACHING OF HEDGING

A terse review of marketing textbooks
(Kohls and Uhl, Tomek and Robinson, Dahl
and Hammond, and Purcell) reveals that most
use the same general approach to teaching the
principles and mechanics of hedging. They
first present the perfect hedge by showing the
cash and futures prices on thé day of the cash
purchase. They then ≡ show the cash and
futures prices on the day of the cash sales.
Given this information, they calculate the
profits or losses in the futures market and
cash market and discuss the fact that a perfect
hedge requires the basis to remain unchanged
between the two periods. Following this, they
generally proceed to discuss the reasons why
the basis may change over time, basis risk, the
role of the speculator, etc. This traditional
presentation of hedging is necessary to pro-
vide an initial concept of what hedging is. But
it provides a very limited and artificial view of
the dynamics involved in placing a hedge and
the market risk that is eliminated by a hedge.
A strength of the Market Risk Game is its
ability to simulate both the uncertainty and
time dynamics involved in using the futures
market. Change in basis, options premiums,
market outlook, etc. are simulated.

The stark contrast between the above text-
book explanation of hedging and reality has
led many university classroom instructors to
develop “paper trading games.” These games
generally function based upon actual com-
modity market prices over the course of
a
semester. The instructor acts as a broker in

James N. Trapp is a Professor, Department of Agricultural Economics, Oklahoma State University.
Copyright 1989, Southern Agricultural Economics Association.

139



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