Module 08 · Commercial Thinking10 min read

Freight derivatives

Hedging the cost of moving the cargo.

Executive summary

Freight is a large, volatile cost that can swallow a trade's margin. Forward Freight Agreements (FFAs) let a trader hedge freight separately from the cargo — locking a rate today for a future month, settled in cash against Baltic Exchange indices, with no ship changing hands.

In plain English

An FFA is a cash-settled contract on a freight route or index for a specific future month. At settlement it pays the difference between the agreed rate and the average spot freight that the Baltic Exchange published for that route over the month. It is pure freight-price risk transfer: a paper position that offsets a physical freight exposure.

FFA: Forward Freight Agreement — a cash-settled forward on a freight rate, settled against a Baltic index.
Baltic indices: Daily freight benchmarks published by the Baltic Exchange (e.g. the BDI and route assessments like Capesize C5) used to settle FFAs.
Freight basis risk: The gap between your actual voyage (route, timing, vessel) and the index the FFA settles against.

Why traders care

On a CIF cargo, freight can be 10–30% of the landed cost. An unhedged spike in freight rates between pricing the deal and chartering the ship can erase the margin entirely. FFAs isolate that freight exposure and hedge it, so the trade's profit depends on the cargo arbitrage, not on the shipping market. A CIF seller is effectively short freight (hurt when rates rise); a shipowner is long freight.

Operator connection

The chartering decisions from the core course — voyage versus time charter, laycan, laytime and demurrage — are exactly what create freight exposure. Time-charter a vessel and you are long freight; sell CIF without fixing a ship and you are short it. FFAs are how the desk neutralises the freight risk the operator's chartering creates.