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September 2010 Archive for Know Your Market

RSS By: Dairy Today: Know Your Market, Dairy Today

Dairy trading experts offer strategies and practical perspectives to optimize market performance.

Higher Milk Prices, Lower Hedge Level? Spare Yourself the Second-guessing

Sep 27, 2010

Milk prices are climbing and, if you hedged your milk at lower prices, it’s easy to feel frustrated that you sold it too cheap. But it’s important to remember why you made the decision to hedge your milk when you did.

 
By Jon Spainhour, Rice Dairy
 
Over the course of the last few months, we have discussed how dairy producers can use tools like futures and options to help manage their bottom line. By using these tools, producers can lock in their output price of milk and, at the same time, lock in a good portion of their variable input prices like corn and soymeal.
 
We have also discussed the idea of making sure that you hedge both of these variables of a profitable hedging equation at the same time so that you are not locking in the price of your milk while leaving your input price open ended, or vice versa.
 
One aspect of hedging that we haven't discussed so far is the idea of consistency, or making sure that after you have developed a successful hedging strategy, that you stick to it and not try and out-guess the market or pick and choose what months or contracts you are going to hedge.
 
It seems especially important to discuss this issue during times like these, when the milk price has made such drastic moves higher. It is easy for a dairy producer who hedged their milk at lower prices to feel as if his sold his milk too cheap and feel frustrated. “Why did I sell my milk so cheap?” is the question they are likely to ask themselves.
 
While it is certainly an understandable concern, as no one likes to leave money on the table, it is important to remember why you made the decision to hedge your milk when you did. More than likely, you were hedging a milk price that made sense to your bottom line in terms of it helping you establish a profitable operating margin.  
 
After you calculated your cost of doing business in terms of your variable input prices and measuring those prices against your potential milk future price, you contracted both sets of variables either with futures or options. That decision was based on your desire to lock in a profit margin, not to try and outguess the market.
 
While it is true that milk prices are likely higher at this point than they were when you established your milk hedges earlier in the year, that does not mean that you have made a mistake or been an unsuccessful hedger. The fact of the matter is that prices could have gone the other way and moved to lower levels.
 
The point is that it is easy to feel that you have sold your milk too low. You may feel that the next time it comes around to hedging, you may only hedge your inputs only or do no hedging at all. I believe that this would be the wrong decision and that time after time, in commodity after commodity, the perils of this decision have been experienced. Almost as soon as someone alters his or her successfully developed hedging plan, the market turns the other way and over corrects, causing drastic results.
 
The key to successful hedging is to develop a hedging plan that fits your appropriate risk parameters as it relates to your overall profitability, implement that plan, and then stick with it. While there may be some times that money gets left on the table, having the knowledge that you will be in business in the future should compensate for that tax.
 
Jon Spainhour is a broker/trader with Chicago-based Rice Dairy, a boutique brokerage firm offering guidance, analysis, and execution services on futures, options, spot and forward markets. You can reach Spainhour at jcs@ricedairy.com.Visit www.ricedairy.com.

“Why Did I Do That?” and Other Natural Emotions in Milk Marketing

Sep 13, 2010

When the markets get aggressively moving one way or the other, don’t let emotion prevent you from remembering your short-term and long-term goals.

 
By Steven Schalla, Stewart-Peterson Inc.
 
As we look at August, September and into October, we’ve seen our milk prices make an impressive run higher. The August Class III settlement price of $15.18 is the highest price we’ve seen since December 2008, which a lot of people are really excited about, and should be.
 
September has also offered an impressive rally, a dollar per cwt. over the past five weeks and two dollars above the low in June. That’s a relatively short time for prices to rally this significantly.
 
Over the past weeks, our conversations with producers have changed course right along with the markets. There are two main themes in our conversations when the market is going up:
 
First, for people who are active marketers, there’s often the question of, “Why did I do that? We’re so behind now, what was I thinking?”  Oftentimes, these producers are beating themselves up when they shouldn’t. The bigger problem is that this emotional response usually leads to, “We’re at high prices now, therefore I’m not going to do anything more” (or start marketing at all, for those who have not been doing so). This line of thinking typically triggers a cycle that gets producers into marketing trouble.
 
When rallies come this fast, you are likely to be behind in your marketing positions, leading to the feeling of regret: “The price went up and I missed it because I contracted too early.” I understand the emotion. Yet, as advisors, it’s our job to point out that producers who are using a strategic marketing process made the best, pre-planned decision they could at that point in time, with the information they had, in order to achieve the goals they have set out to accomplish.
 
For example, in late July when the September futures contract was challenging the May high prices at $15.48 but looked unable to break that major level of selling resistance, based on what we knew at that point in time, it was a logical point to be selling some of your milk. For a lot of people, a $15-plus base price was a break-even or profitable level where the balance sheet started to make up for the lost ground of 2009. Remember, if you made your decision with your marketing goals in mind, then the fact that prices rallied higher should be icing on the cake. Namely, if you’ve been making your sales incrementally or utilizing a call option strategy, you still have opportunity ahead.
 
Second, in upward trending markets, we spend a lot of time helping producers keep their eyes on their goals for marketing. The emotions described above can easily distract from a producer’s big picture goals. Instead of dwelling on one specific month or sale you’d love to have back, it is much more useful to look at your weighted average price for the particular month, and then look at it from a big perspective, say for the quarter or year.  From this perspective, you can often see that you’ve given up very little opportunity in relation to what the market has given you, and you managed risk in the process.
 
When you slow it down and step back from your emotions, you can also look for the other opportunities a rally in prices offers. For example, this current rally offers us improved prices for the fourth quarter months. Instead of spending energy on the “woulda coulda shoulda” for one or two months, ask yourself, “How will I take advantage of the other opportunities this milk price rally is giving me?”
 
Whether the market trend is higher or lower, a strategic marketer is now addressing several questions to keep natural emotions in check:
 
  1. What signals is the market giving us that something is changing?  Using technical or fundamental signals can be useful and objective action points.
  2. Do I know what my available marketing tools are and how to use them? By using different tools to complement one another, it is easy to add flexibility to your strategies.  
  3. Is my strategy prepared in advance?  Maintaining discipline and executing a prepared strategy is much easier and productive than scrambling after it’s too late. 
  4. What were my goals going into this marketing year? For example,one of the most popular goals among our clients is price stability for cash flow. However by actively minimizing downside risk, the consequence can be starting to limit you upside potential in an aggressive rally. Even if we are behind a little at this time, are we meeting our big picture goals?
 
When the markets get aggressively moving one way or the other, don’t let emotion prevent you from remembering your short-term and long-term goals. Remember that the market always presents opportunity and risk; therefore, keeping perspective and maintaining discipline will allow you to have long-run success. 
 
--Steven Schalla is a Market Advisor for Stewart-Peterson Inc. He can be reached at 800.334.9779 or sschalla@stewart-peterson.com.
 
The data contained herein is believed to be drawn from reliable sources but cannot be guaranteed. Neither the information presented, nor any opinions expressed constitute a solicitation of the purchase or sale of any commodity. Those individuals acting on this information are responsible for their own actions. Commodity trading may not be suitable for all recipients of this report. Futures trading involves risk of loss and should be carefully considered before investing.  Past performance may not be indicative of future results. Any reproduction, republication or other use of the information and thoughts expressed herein, without the express written permission of Stewart-Peterson Inc., is strictly prohibited. Copyright 2010 Stewart-Peterson Inc. All rights reserved.
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