What is Backpricing?
Backpricing is a method for pricing commodities, whereby the buyer and seller agree to buy/sell a commodity but set the price at a later date.
How Does Backpricing Work?
For example, let's assume that John wants to buy some corn. On July 1, he approaches Bill, who agrees to sell John 100 bushels of corn on September 30. John doesn't want to pay Bill the July 1 price, so the two of them agree that they will set the price on September 1. When September 1 rolls around, John and Bill backprice the corn and agree to conduct the transaction on September 30, as originally planned.
Why Does Backpricing Matter?
Backpricing is a way to reduce risk. The idea is that as the transaction date approaches, the price of the commodity will get closer to what its fair market value will be on the transaction date. The parties will typically use the futures market to set the price.
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