In the northeast United States and in eastern Canada, many people heat their houses with heating oil. Imagine you are one of these people, and you are expecting a cold winter, so you are planning your heating oil requirements for the season. The current price is $2.25 per US gallon, but you think that in six months, when you'll need the oil, the price could be $3.00, or it could be $1.50.
If you need 350 gallons to survive the winter, how much difference does the potential price variance make to your heating bills?
If your friend Tom is running a heating oil business, and selling 100,000 gallons over the winter season, how does the price variance affect Tom?
Which one of you benefits from the price increase? Which of you benefits from price decrease?
What are two strategies you can use to reduce the risk you face? Could you make an agreement with Tom to mitigate your risk?
Assuming you are both risk-averse, does such an agreement make you both better off?