CFGAG News and Views December 1, 2019
"Cash Markets are Strong, Why Not Futures?"
As the calendar turns to the month of December, and we look at basis levels remaining very strong historically, there are still many asking "where is all the grain?" We talk to people from Ohio to Wyoming and every state in between and almost everyone has a much stronger than normal basis, less outside stored grain than normal, and more favorable terms for delivery of wet corn in terms of discounts and drying charges. If we only looked at what our basis levels are and ignored all else, we would have to believe that our crop was much below average and end users have little to no forward coverage. Export sales and shipments have been very good for beans and wheat, not so for corn but improving lately. The bright spot for corn the last few weeks is a big increase in ethanol production and also a big drop in ethanol stocks. Somebody is using it! Seasonally we should see corn exports pick up as South American supplies dwindle, and our prices have fallen to competitive levels. We should see some increase, and in fact, have recorded some daily sales of over 100,000 tons last week, and hopefully this continues. We still have a long way to go for corn exports to catch up to projections! With all that said, we still try to explain the disconnect between cash and futures. Some possible ideas:
1) More on farm and commercial storage added
2) Late harvest: maybe 2 billion bushels still in the field?
3) Cash flow needs covered by MFP payments, Crop Insurance claims, and previous sales mean no new sales needed
4) Smaller acreage? Is USDA still overestimating acres?
5) Is demand stronger than expected? Did we have as many carry in stocks as reported?
If we had to make a guess, it would be centered on #'s 4 and 5 above. We still believe harvested acres as a percentage of planted will drop due to many factors such as failed acres, prevent plant acres planted to corn but harvested for forage instead of grain, and acres abandon due to adverse weather. It would not surprise us to see harvested acres drop by 2 million, which would drop total production by over 300 million bushels. When we look back to the September 30 Quarterly Grain Stocks Report, the trade was surprised with a 300 million plus reduction is stocks verses expectations. Did we lose those bushels or was demand better than expected? USDA reported far more corn stored on farm (a less accurate number) and much lower commercially held stocks, a number that has to be reported accurately. The bottom line is the cash market is telling us it needs grain now, and for whatever reason, it is not available at this price on the board, so basis must make up the difference, and this is why bids are so far over the board price. The question for us is "how do I take advantage of this and still stay in the market?"
Depending on your cash flow needs, both now and over the next few months, there are some really good choices. If you need cash now for prepayment discounts, or whatever, selling cash now on good basis and buying deferred futures contracts (March, May, or July) with protective sell stops in place limit risk to the sell stop price, and keep you long so any rally is adding to your price penny for penny. You could also buy puts to protect the downside and do a basis contract for a delivery month that lines up with your cash flow needs. If you do set futures and deliver, you could choose to buy futures against your put options to stay long in case the rally continues. Your risk would be limited by the price difference between the put strike price and the buy point in futures price. When considering these choices, keep in mind the length of time you want to do this, as option premium goes up with time length. Do you want to use March or May, or even July? With corn spreads historically narrow, owning futures out to July but protecting them with nearby puts as needed may be a good choice. Make sure you talk over all of these with us to properly match positions with what you want and need. There is no one size fits all answer, as timing of sales and delivery as well as re ownership details require some planning. We do not want to spend money needlessly on time value if it is not needed, only spend what we need to accomplish the goal in mind. For instance, we are told that USDA will not update any acreage numbers or yields on the December 10th Supply/Demand and Crop Production Reports, so with no major changes expected, we need to prepare for the final numbers released in January. This means that we will need to own at least February options to get through that report, and quite possibly March options that expire the end of February would be better. By then, most of the critical South American weather issues will be on the table, if any, and we should have a look at what our spring looks like as well. If we want to stay in longer, it will require more time value in the form of higher option premium to pay. Our view is spend as little as possible to see the most important information and then if needed, or there is a very good reason why, we will spend more later. Again, your plan and your needs will dictate what we do, always focus on what YOU want and need, not what some "talking head" advocates on radio or television. THEY do not pay your bills!
With all this in mind, here is some of what we are doing on our farm:
1) For corn, we have set basis on our HTA contracts for fall delivery, taking advantage of the best basis we have seen at harvest in many years and own March futures with a 10 cent stop in place
2) We are writing basis contracts now for Jan-March delivery on sales we need for cash flow.
3) We are still somewhat friendly on corn price going into the January Reports for the reasons listed above, we will maintain longs but may buy puts to protect those longs if we rally going into the report. If we rally 30 cents, we may just take the profit and go the sidelines happy!
4) For soybeans, we sold our calls for a decent profit, and used the good basis (even) to price out our hedges and deliver out of the field. Stored beans are now covered with futures hedges rolled from November to July for 49 cents carry
5) For new crop corn, we are targeting $4.10-4.20 for sales or put protection, for new crop beans, $9.70 or better for the same
Looking ahead, there is still no deal with China, and now unrest in Hong Kong may increase tensions and make a deal more difficult. A deal may give us a nice bounce to sell, and if basis contracts are in place, may give you what you want in terms of profit. Make sure you have orders in or at least let us know what you are looking for. Look what happened just last week, a big sell off culminated Wednesday, only to see a big rally Friday in low volume trade. Will it continue Sunday night? Right now funds are short in corn and beans, and any good news on China trade or South American weather going south could cause a short covering rally. If we rally sharply, will basis stay strong? Keep all this in mind when fine tuning your plans for marketing this crop. Having targets in place and a plan to cover sales could really pay off in low volume holiday trade! At this writing, South American weather has experienced no major threats, but Argentina and a small section of Brazil may start drying out and heating up, and because of the size of their projected crops, any major threat could spark a rally. Do not underestimate the impact of our competition to the South, they produce a lot of grain!
In conclusion, we enter December with a look back at one of the most challenging years in terms of weather we have faced, and have to admit, on the first of June any idea we could get a crop of this size looked totally hopeless. Once again, you and every other producer refused to give up, kept trying, and still produced. We cannot underestimate the resilience of the American Farmer, he/she is the best. Yes we got lucky with some timely rains late and for the most part, killing frost stayed away until most grain was mature. There are still many questions about the size of the crop, we will debate that long past January of next year, but we want to zero in on what we have now and not get caught up in the emotion of what may be. We know we have a great basis, so what do we do with it? If the bulls are right and the crop size is smaller, what kind of rally will see basis erode? We still have a lot of crop to sell at some point, how much rally will get you interested? What you don't want is for the selling to be over before you start. What if the bears are right? What if the crop is out there but just waiting for a new tax year to sell into? Big sales= falling futures AND widening basis, not good for those who wait too long. What if South American weather goes dramatically worse and our spring weather is cold and wet again? Then both futures and basis likely rally until we force end users to give up and demand goes down dramatically. Your question is, how much do you want to wager on any of those possibilities? For us, taking some risk off the table on every rally makes sense, and transferring total risk to manageable levels through the use of protected futures with puts or calls or call spreads makes sense. Incremental sales on rallies doesn't hit the top, but sure makes the average price look good at the end of the year, and that is what we are all about. As we finish this year, we want to thank you for working with us, wish you a very Blessed Christmas, and a healthy, happy, and prosperous NEW YEAR! We value your friendship as much or more than the business, as working with good folks is a blessing we are mindful of every day. Call us anytime with any ideas, we are glad when you call, and hopefully we will see you at a meeting soon!
Dates to Remember:
- Every Monday: Export Inspections, Crop Progress
- Every Thursday: Export Sales and shipments
- December 10th : Monthly Supply/Demand Report, Crop Production
- December 20th: Cattle on Feed
- December 27th: January Options expire
Mike Daube: 888-391-6330 or 574-586-3784
Allen Gard: 573-7694193
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