Measuring the Price Volatility of Certain Field Crops in South Africa using the ARCH/GARCH Approach

Abstract

The conditional volatility in the daily spot prices of the crops traded on the South African Futures Exchange (yellow maize, white maize, wheat, sunflower seed and soybeans) is determined. The volatility in the prices of white maize, yellow maize and sunflower seed have been found to vary over time, suggesting the use of the GARCH approach in these cases. Using the GARCH approach, the conditional standard deviation is the measure of volatility, and distinguishes between the predictable and unpredictable elements in the price process. This leaves only the stochastic component and is hence a more accurate measure of the actual risk associated with the price of the crop. The volatility in the prices of wheat and soybeans was found to be constant over time; hence the standard error of the ARIMA process was used as the measure of volatility in the prices of these two crops. When comparing the medians of the conditional standard deviations in the prices of white maize, yellow maize and sunflower seed to the constant volatilities of wheat and soybeans, the price of white maize was found to be the most volatile, followed by yellow maize, sunflower seed, soybeans, and wheat respectively. These results suggest that the more risk-averse farmers will more likely produce wheat, sunflower seed and to a lesser extent soybeans, while maize producers are expected to utilise forward pricing methods, especially put options, at a high level to manage the higher volatility.