Know Your Market
Why I Fear Dairy’s Bull Market
Feb 14, 2011
My concern is that dairy producers across the country will see these higher milk prices and get comfortable, nervous or even greedy.
By Katie Krupa, Rice Dairy
Dairy farmers across the country are breathing a little easier these days since higher milk checks will soon be hitting their mailboxes. The recent run-up in milk prices trading on the Chicago Mercantile Exchange means that farm milk checks will be the highest seen in two years.
Both Class III and Class IV futures are currently trading in the high teens to low 20s for the remainder of 2011. Although higher input costs will eat away some of those prices, if prices stay where they are, dairy farmers should have a profitable 2011. Additionally, many market analysts are calling for prices to continue to climb due to low dairy powder inventories and a growing export market.
So with all this good news, why would I fear the current bull market? My concern is not that the market will change direction and prices will decline. Inevitably that will happen. My concern is that dairy producers across the country will see the higher milk prices and get comfortable, nervous or even greedy.
Comfortable -- Around this time, many producers are now able to pay their bills, maybe (hopefully) even able to start to save a little, buy a new piece of equipment, or enjoy that long-awaited family vacation. All of these things are great, but unfortunately many people don’t think about setting up a risk management plan when things are going well. It’s easy to think about risk management when the milk price is $12, but not so easy when it’s $20.
Like insurance, you want to get protected before the incident occurs. No one wants to think about health insurance on a beautiful sunny day when you are in the prime of your life, but that is when you should. The sunny, healthy days don’t last forever, and you should be protected for the road ahead. Your business’s risk management plan works the same. Although prices are good now, will they be down the road? Now is the time to at least evaluate your risk management options, talk to industry professionals; a broker, banker, cooperative, feed dealer, etc. Be prepared for the road ahead – it may be bumpy!
Nervous -– This is the opposite of comfortable. Some people get very nervous about price volatility, for both inputs and milk price, and they make rash decisions. Rather than investing the time talking to industry professionals and making a decision that is in your business’s best financial interest, some people quickly jump on what looks like a “good” price. Unfortunately that “good” price can sometimes turn into a bad price for the business. With increasing price volatility, “good” and “bad” prices are relative to the operations cost structure. Your business’s risk management plan should include both the milk and input prices, and should not be a rash decision.
Greedy -- This one is tough. Obviously no one wants to leave money on the table when it comes to milk price, but if you are greedy you may miss out on the profit margin altogether. It is easy to get caught up in the market’s upside movement, and there will always be at least one analyst who is calling for the market to move higher. If you are always waiting to contract at the market’s peak, chances are you’ll miss it altogether.
This situation has occurred in the past, most notably in the summer of 2008. Although the Class III price was trading at $20, many were calling for it to go higher, so most people waited. Ultimately the market crashed, leaving producers with sub-$10 Class III prices in 2009. Again, you should be making your contracting decisions based on the risk management strategy unique to your business.
Risk management decisions can be difficult at first. My best advice is to create your risk management strategy based on your farm’s financials, and the decisions will be easier. Your risk management strategy should be based on protecting a profit margin, and while your strategy will need to be adjusted as the market changes, you should not be making rash decisions, or getting too comfortable and neglecting risk management all together. I recommend working with the right team of professionals to help create and implement a risk management strategy that protects your business and your future.
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. You can reach Krupa at firstname.lastname@example.org.Visit www.ricedairy.com.