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May 2012 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.

April Showers Bring May Flowers for the Milk Market

May 19, 2012

Can the recent rally be sustained given the underlying fundamental picture? Are you protected if prices head south again?

Rocky GinggBy Rocky Gingg, Stewart-Peterson

Milk prices have made a sharp turnaround over the last two weeks, putting an end to a lengthy five-week losing streak. During the past two weeks, June milk rallied over 120 cents, or 8.6%, while the July-December average has tacked on more than 50 cents, or 3.7%.

Has April’s steady shower of downward pressure led to an upward blossom for milk prices in May? Thus far it has, but the better questions to ask are, “Can the rally be sustained given the underlying fundamental picture” and “Are you protected if prices head south again?”  

Gingg chart 1 5 19 12
Source: Stewart-Peterson Inc.

Analyzing the Latest Market Fundamentals

In the latest USDA Milk Production Report for the month of April, total milk production came in at 17,190 million pounds, up 3.2% from last year but down 2.8% from March. This is the largest year-over-year percent increase for April milk production since the 3.3% gain in 2006. The herd grew another 5,000 head from March and was up 90,000 head from last year. Productivity per cow took a seasonal dip and was down 55 pounds from March but up 40 pounds from last year.
 
Gingg chart 2   5 19 12
Source: Stewart-Peterson Inc.
On the demand side of the equation, U.S. dairy exports have proven to be the silver lining amidst the excess supply flowing through the pipelines. According to trade data released on May 10, total U.S. dairy exports for the month of March were up 4.7% from last year. March marked the fifth consecutive month with a year-over-year gain for total dairy exports. Total cheese exports posted a record high at 25,087 metric tons which was up 13% from last year and 22% from the previous month. Year-to-date exports have accounted for 12.9% of total milk solids.
 
Gingg chart 3  5 19 12
Source: Stewart-Peterson Inc.
Milk Marketing Strategy in a Down Trending Market 
 
Given the overall bearish fundamental backdrop, rallies such as this are great opportunities to make incremental sales or implement option coverage. Using upside price targets above the market or downside sell stops beneath the market are both great ways to reward the rally and get coverage in place.
 
 
• An upside price target is more aggressive and should be derived from key retracement levels or key resistance areas. “Retracement levels” measure how much prices have rallied from contract lows to contract highs. “Resistance areas” are price levels where the market has struggled to reach above.

• If a producer wants to roll the dice, a downside stop allows the market to trend higher and ensures protection if prices turn around, because the sell stop will be triggered on the way down.
 
From a big-picture standpoint, we are still in a down trending market. Rallies in a down trending market can be very short-lived and producers should take advantage of them as hedging opportunities. This is preferable to crossing your fingers and hoping the short-term bottom is in.
 
“Fool me once, shame on you. . .”
 
Right now the market seems to be trending in a two-step down, one-step up fashion. That means the overall trend is down. We see, however, a rally occasionally that offers opportunity. Producers should be cautious about getting caught in a “fool me once, shame on you; fool me twice ,shame on me” marketing scenario. Every time we let a rally go by, we miss a pricing opportunity and end up in “woulda coulda shoulda” territory.
 
That’s why we stress the importance of a vigilant, consistent marketing approach that aims to build a strong weighted average price over time. When you take this approach, you take the decision-making pressure off of each individual rally, and instead use each rally as a stepping stone to a solid overall price for the year.
 
Rocky Gingg is a Market360® Advisor for Stewart-Peterson Inc. He can be reached by calling 800.334.9779 or at rgingg@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 2012 Stewart-Peterson Inc. All rights reserved.

LGM-Dairy: Potential Payout for All 10 Months

May 11, 2012

Calculating where the dairy insurance program will settle for participants.

ron mortensen photo 11 05   CopyBy Ron Mortensen, Dairy Gross Margin, LLC
 
Last month we looked the Livestock Gross Margin-Dairy (LGM) settlements.
 
For policies purchased on Nov. 18, 2011, the first three months of a policy--January, February and March--have “banked” indemnities for these months of $.25/cwt., $.84/cwt. and $1.33/cwt., respectively. Remember, if you purchased a 10-month policy, the remaining seven months will need to be calculated before your policy is settled.   
The months of April to October have not settled, but futures prices for milk, corn and soybean meal can be used calculated the potential payouts. Potential monthly payouts from April to October range from $1.33 /cwt. in April to $3.01/cwt. in July (see red circled area in chart below). The average of all 10 months would yield a potential payout of $1.74/cwt. for a zero-deductible policy. 
 
The chart below is an example of January through October. The first three months have final settlements. The next seven months’ payouts are estimated using the average of the futures values for May 4, 7 and 8.  This example uses 1,560 cwt. of milk, 20.5 tons of corn and 6 tons of soybean meal.  
 
Mortensen chart 5 9 12b
 
Premium:
  • $0 deductible  - $.75/cwt.
  • $.50 deductible - $.48/cwt.
  • $1.00 deductible - $.25/cwt.
 
Potential indemnity if all of the contracts settled as of May 8, 2012
(three settled months and seven months not yet settled): 
  • $0 deductible - $1.74/cwt.  
  • $.50 deductible - $1.24/cwt.  
  • $1.00 deductible - $.74/cwt.
 
Estimated net indemnity after premium:
  • $0 deductible  - $.99/cwt. 
  • $.50 deductible - $.76/cwt.  
  • $1.00 deductible - $.49/cwt.  
 
Values for the last seven months will change until each month is settled. The final indemnity will be based on an average of all the months. Your final premium payment will not be due until November.  In order for you to receive an indemnity, all of the months you purchased coverage on will need to be settled. If you are entitled to an indemnity, it will be first applied to your premium due. If the indemnity exceeds the premium, you will receive a check.   
 
To Learn More…
Click here for a short Powerpoint slideshow showing the steps for you to enter to review your policy or a sample policy. Just click on this website.
 
For further information, the University of Wisconsin’s Dr. Brian Gould has a website called “Understanding Dairy Markets.” It is a great source to evaluate your LGM-Dairy policy. Go to future.aae.wisc.edu and click on LGM-Dairy.
You can also access the premium estimator by going to www.dairygrossmargin.com and clicking on “Premium Estimator.” Dairy Gross Margin also generates historical data that can be found on our website under Dairy History.
If you need assistance in calculating your policy or an example of a policy, email Marv Carlson at marv@dairygrossmargin.com or call 712-240-8395.
Ron Mortensen is a founder of Dairy Gross Margin, LLC, which was formed in 2006 to sell Livestock Gross Margin Insurance to dairy producers. Mortensen’s firm is now licensed in 23 states. He is also president of Advantage Agricultural Strategies, Ltd., which he founded in 1985, to provide individual risk management advice for farmers and agribusiness using futures, options and cash trading strategies. Contact him at 515-570-5265 or ron@dairygrossmargin.com.

Tips for Hedging without a Large Upfront Investment

May 07, 2012

Three strategies to reduce your margin account funding requirements -- or even eliminate them all together.

Katie Krupa photoBy Katie Krupa, Rice Dairy

In recent months, milk prices have declined, and producers across the country are starting to feel the pinch.

The 2011 average Class III price was $18.36, which compares to the January-April 2012 average price of $16.14. Unfortunately, the short term outlook doesn’t look any better. The Class III futures for May-August 2012 are currently averaging around $14.75.

Because of this downturn, many dairy producers are looking into risk management strategies and are concerned with the need to fund a margin account when working with a broker. Below are some strategies to consider to reduce your margin account funding requirements or even eliminate them all together.

1. Buy put options through a broker.

When you buy put options, you are getting a level of price protection for a set amount of premium. If you are buying put options through a broker, you will need to pay the full premium amount (for all months you are contracting) upfront, but you will not be required to add more money to your account if the market should change. This allows you to protect your milk price for a set amount of money, and, if the milk price increases, you’ll be able to benefit from the higher price (and you won’t have to add more money to your brokerage account). 

For example, a July-December $14.00 put option costing around 30 cents would require you to contribute around $3,600 ($.30 x 2000 cwt. x 6) to your brokerage account for 200,000 pounds of milk per month.

Another strategy is to purchase what’s commonly called a ‘put spread.’ When you purchase a put spread, you are actually buying a put, and at the same time selling a put at a lower level. This strategy offers limited price protection. It works well for some producers because they are able to get a higher level of price protection for a lower premium, but the protection is limited. If the price drastically declines, the producer would only be protected for a portion of the decline.

For example, a July-December $15.00/$14.00 put spread (buying the $15.00 put, and selling the $14.00 put) costing around 35 cents would require you to contribute around $4,200 ($.35 x 2000 cwt. x 6) to your brokerage account for 200,000 pounds of milk per month. This strategy offers price protection between $15.00 and $14.00, but nothing below $14.00. So, if the Class III price should settle at $12.00, you only gain the $1.00 between ($15.00 and $14.00) less the 35 cent premium and brokerage commissions and fees. Again, with this strategy, you will never have to add more money to your brokerage account because if the price should decline, your gains from the $15.00 put will offset your losses from the $14.00 put.

2. Hedge through your cooperative or milk plant.

Several cooperatives and milk plants offer risk management hedging opportunities for their dairy producers. While some only allow you to fix your price, others have diverse milk contract offerings and even feed hedging strategies. When hedging through co-ops or milk plants, typically no money is due upfront; rather, any money owed or due is adjusted in the milk check for the month the milk is contracted. This allows producers to hedge their milk (or even feed) without having to lay out funds upfront.

3. Take advantage of Livestock Gross Margin Insurance (LGM) when you can.

Since this option is not currently available, I will keep this short. LGM offers coverage on the milk-feed margin for one month or a series of months, and a premium payment is due. The nice thing is that the premium payment is due at the end of the insured months. Unfortunately, however, funding for the program has been fully utilized, so producers cannot currently use this strategy.

Regardless of your cash availability, there may be an option or multiple options available. I suggest connecting with a professional to assess your risk management needs, available hedging options and funding sources.

Katie Krupa is the Director of Producer Services with Chicago-based Rice Dairy, a boutique brokerage firm offering guidance, analysis, and execution services on futures, options, spot and forward markets. If you are interested in learning more, Katie offers monthly webinars on the basics of risk management. You can reach Katie at klk@ricedairy.com.Visitwww.ricedairy.com. There is risk of loss trading commodity futures and options.  Past results are not indicative of future results.

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