Water is officially a tradable commodity under the ticker “NQH2O” on the Chicago Mercantile Exchange (CME) as of December 7. The first-ever regulated, exchange-traded contract of its kind is designed to allow farmers, manufacturers, and other major water users to protect against price swings of the world’s most precious resource. It could also serve as a risk-management tool by investors against such things as drought and climate change, or even just as a stand-alone product.
The contract is based on the Nasdaq Veles California Water Index (NQH2), launched in 2018 by Veles Water Ltd. and linked to the $1.1 billion California water market. The index sets a weekly benchmark spot price of water rights in California, underpinned by the volume-weighted average of the transaction prices in the state’s five largest and most actively traded water markets. California accounts for 9% of daily U.S. water consumption. The water market is four times larger than the any other state, with transactions totaling $2.6 billion between 2012 and 2019. Of course, the state is plagued by drought and wildfires, while it also maintains the top spot for agricultural production.
Explaining the rational behind the index, Veles Water CEO Lance Coogan says, “You have the most important commodity in the world and everything else is listed except the water price.” Tim McCourt, global head of equity index and alternative investment products at CME, says the idea of managing risks associated to water has increased in importance. Around two billion people now live in nations plagued by water problems, and almost two-thirds of the world could face water shortages in just four years, according to McCourt.
Those figures come from a new United Nation’s report, The State of Food and Agriculture (SOFA) 2020. The UN’s findings indicate that more than three billion people worldwide live in agricultural areas with high to very high levels of water shortages and scarcity, and almost half of them face severe constraints. Furthermore, available freshwater resources per person have declined by more than 20% over the past two decades globally, underscoring the importance of producing more with less, especially in the agriculture sector, the world’s largest user of water. About 11% of the world’s rainfed cropland, or 316 million acres, face frequent drought, as does about 14% of pastureland, or 1,621 million acres. Meanwhile, more than 60% (or 422 million acres) of irrigated cropland is highly water-stressed. 11 countries, all in Northern Africa and Asia, face both challenges.
A project called Aqueduct from the World Resources Institute (WRI) and partners has several interactive tools that can be utilized to explore the current and future state of water resources around the globe. Check it out HERE. Their models show predictions out to 2040 and incorporate the expected impacts of climate change. Aqueduct Food’s data shows the amount of crop production in 2010 facing high and extremely high seasonal variability of water supply will more than quadruple by 2040 in a business-as-usual scenario.
Of the four major globally traded crop commodities – corn, rice, soy, and wheat – wheat is in the highest demand for household consumption and faces the highest threat from water shortages. More than half of irrigated wheat is currently exposed to extremely high water stress. By 2040, nearly three-quarters of wheat production will be under threat, according to WRI.
No matter what model you use, almost any global water study points to increasingly constrained supplies as we move forward. Obviously, a futures contract won’t create more water but it could help some of the businesses most vulnerable to its price fluctuations. Others are expected to follow with more local indexes seen being created as water scarcity becomes a more widespread issue. (Sources: Wall Street Journal, WRI, CNN, Bloomberg)