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

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

Higher Milk Prices Ahead, But Hedging Discipline Needed

Jan 17, 2011

I have very rarely shared my opinion in this column over where I think the market is going to go. I have done so intentionally, as I wanted readers to focus on the mechanics of how futures and options work. In this last column, I will break from that tradition.

 
Spainhour PS jpegBy Jon Spainhour
Rice Dairy
 
Over the last 12 months, we have discussed many different issues that dairymen have to think about when it comes to using financial tools like futures and options to hedge their input and output prices for their dairy operation. It has been my hope that dairymen have been able to read these articles and come away with a better understanding of these issues than before. 
 
While many of these issues and topics can seem very complicated at first, like puts and calls, I can assure you that if you remain committed to learning about them that they will easily become part of your day-to-day operations and you won't want to run your business without them.
 
This column will be my last column, as I will be passing off to my colleague Katie Krupa. She will be writing to you in the same spirit as I have, in hopes to shed light on what many people see as an overly complicated subject.  I have enjoyed sharing my thoughts with you over the last year and I know you will enjoy hearing hers.
 
I have very rarely shared my opinion in this column over where I think the market is going to go. I have done so intentionally, as I wanted readers to focus on the mechanics of how futures and options work. I will break from that tradition slightly in this article and say that I believe that 2011 is going to be year of high dairy prices.
 
We are already seeing the protein and fat prices move to levels that we haven't seen in several years, and it won’t be long until the cheese price follows. Ultimately, I believe prices are still going higher than current levels and that overall milk prices will be much better this year than last.
 
While I am sure that most people are happy to hear that, I also think that we need to point out a few things. To begin with, grain prices are shooting higher as well, and that means that producers should remain committed to hedging their input prices.  We have spoken several times in this column about the dangers of hedging your grain without hedging your milk. Don't lose that discipline. Make sure you are buying on your milk while you are hedging your grain. Anything can happen, and the last thing we want is to have hedged our grain and not our milk and have both prices suddenly drop.
 
Also, we need to keep in mind that one of the reasons that milk prices are moving higher is because of the export market. We are sending more and more of our product overseas, and while that is a wonderful thing, it also can be full of volatility. Export markets can be jumpy, and when you are a so reliant on them to keep your price higher, small hiccups in export demand can push domestic prices lower quickly. Simply because the price of milk is going higher, doesn't mean that it has to stay there. Make sure you are buying puts and taking advantage of these higher prices.
 
Finally, we are likely going to see production in this country and around the world expand dramatically in the next year or so. Many people will argue with me, but I think we will see it happen. If that is the case, we will see more milk that could weigh on prices. I think that can be handled by using risk management tools as well. However, if you are going to expand your herd, make sure you refigure the amount of milk and grain that you need to hedge.
 
All in all, I think it is going to be a great year for producers, but I hope you take advantage of it. It has been a pleasure writing for you and I hope you feel more comfortable with risk management topics than before.  
 
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.
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