choles' paper begins with the assertion that hedging and spreading are S economically identical activities. While not common trade use of these terms, what is meant is that both hedging and spreading are arbitrages, recognizing that what is being arbitraged is very different in each case. By the conclusion, however, hedging, spreading, and speculation are all identical because all are seeking to maximize profits and, in the absence of a bias in futures prices, their expected returns are all zero. The separate premises of this conclusion are difficult to argue with. The searches for risk premiums in futures prices have not produced consistent results, whether the premiums being sought were of the Keynes-Cootner variety or of the CAPM variety. Similarly, all economic agents seek to maximize profits. Having established the equivalence of these activities, Scholes then notes that investors do take taxes and their consequences into account in their trading. But, because the expected profits of all participants are zero, the "exposte performance of hedgers or speculators will not be a good way to separate out the tax spreaders from the economic spreaders (p. 284)" The reader is tempted to infer from these developments that, in futures markets, the worlds of taxes and no taxes cannot be distinguished, a conclusion which stretches the credibility of the entire paper. While it may be difficult to identify some individual trades as "tax trades," the effects of the aggregate of these trades are easily seen. An example from the paper will serve as the basis for this discussion.
First, however, it is important to note Scholes' paper, and hence, the discussion here, deals only with storable commodities-grains, metals, and some interest rate futures. Nonstorable-eggs, live cattle, T-bills-and price relationships found there are excluded. Also, the development of the paper is almost exclusively in terms of the inventory hedge, the traditional short hedge. Whether any of the models of individual behavior in the Scholes' paper could be applied to a long hedge, for example, a processor or an exporter, or to nonstorable commodity markets are open questions.
In this setting, the example I wish to pursue is Scholes' which describes a world of complete certainty. With no changes in carrying costs, no risk premiums to holding futures contracts, and price certainty, futures prices would not change and hence there would be no hedging, spreading, or speculation. Indeed, there would ~~