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Cash Contract Woes?

August 1, 2008
 
 

As the rains fell, producers sat with eyes glued to commodity quotes. How much corn would not get planted? How high would prices rise? Fields were wet, but sales dried up. "We saw a kind of deer-in-the-headlights effect," says Nick Mueller, senior analyst with Stewart-Peterson Group in West Bend, Wis.

In a July survey, Top Producer found that some 65% of growers had forward contracted a portion of their 2008 crops. About 3% of them feared they would not have enough crop to deliver on their contracts.

Of the advisory services in the Top Producer Track Records (see "Outlook" ), Stewart-Peterson recommended the most cash sales, with 65% of the corn crop and 60% of soybeans sold by our July 1 update. "I can't say we have anyone who is oversold relative to production now," Mueller says. "We did have some who bought out of contracts early on."

"We do not believe this to be a common situation, but in the rare cases, we want to identify issues as early as possible to find a mutually agreeable situation," says Dean Grossman, vice president of sales and marketing for Cargill AgHorizons.

"First, be sure to deliver the grain that you do have, and try to work out a settlement for the shortfall," says Joe Brocklesby, manager of grain origination for CGB. "There's no magic bullet to this problem. Producers and buyers need to accept what has happened and work through the issues together."

Roll ahead? Darrel Good, University of Illinois Extension economist, says that from the producer's standpoint, if prices aren't at or below the contracted price, the best outcome might be to roll the sale forward to 2009. Unfortunately, the price for delivery next year may be less than this year's contracted price, he notes.

"Rolling ahead can be a dangerous proposition," Brocklesby adds. "Fees to carry another year can be very expensive, and when there is an inverse, with next year's prices lower than the current year's, that cost has to be realized somewhere."

Mueller agrees: "This year is different because of the high volatility. If an elevator allows rolling, it will be expensive. Whatever the price on your contract, the elevator hedged at that level. It has been margining that position for months. Would it want to margin it for another year?"

Another solution. Mueller recommends a strategy similar to what funds were doing at the end of June: They bought September futures (which would replace your sold crop) with a bear put spread under them. An example would be to buy a $7.40 put at 43¢ and sell a $6.70 put for 13¢, reducing the cost to 30¢.

Not only would this provide downside protection to the $6.70 level, but if prices fall, the $7.40 put gains value, helping with margin calls on the long futures position.

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FEATURED IN: Top Producer - Summer 2008

 
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