An Integrated Trading Model for a Financially Distressed Commodity Producer

July 25, 2015 Posted by admin

Ismail Civelek
Gordon Ford College of Business, Western Kentucky University
Tarsali, Vadodara – 390009, Gujarat, India

Abstract
We consider a commodity trader that invests in the transportation capacity in order to sell high under the domestic spot market price uncertainty. Hence, the trader faces profit uncertainty that drives the financial distress cost. In our model, the expected financial distress cost is used for the objective in the cases of a value-maximizer firm and a risk-averse agent. Since buying too much transportation capacity affects the market price, we analyze the uncapacitated trading problem and show comparative statics. We discuss how the value maximizer and risk-averse commodity trader’s optimal decisions change in four different cases depending on the pricing of the unit transportation capacity cost: Only risk-neutral, low-mispriced or high-mispriced capacity, and the case with two-measures. Similar to results in literature, only riskneutral and high-mispriced cases are trivial. However, in low-mispriced and twomeasures cases, in which arbitrage opportunities exist, we show that the trader does not invest infinitely due to the financial distress cost.

Keywords: Operations Management, Commodity Trading and Financial Hedging

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