Know Your Market
Zooming In on LGM for Dairy History with Detailed Graphs
Jul 25, 2011
Livestock Gross Margin for Dairy expert Marv Carlson explains a risk management educational tool that helps dairy producers further understand seasonal and other historical price trends.
By Marv Carlson, Dairy Gross Margin, LLC
My goal this month is to explain another of our Livestock Gross Margin (LGM) for Dairy risk management educational tools we think helps producers further understand seasonal and other historical trends. To assist decision making and understanding of previous opportunities, we at Dairy Gross Margin provide a continuation of the chart comparing monthly Expected Gross Margin vs. the Actual Gross Margin started by Penn State University.
For a “let’s get started zoom-in analysis” of how the historical monthly margins have settled out, take a look at the 2008 through 2009 chart below.
The solid black line is the Actual Gross Margin (AGM) per cwt. of milk. Each of the colored lines with various symbols represents an insurable set of 10 months that was available on the LGM Sales Day (the last business Friday of each month). The first sales day contract shown (maroon line with boxes) is August 2008 with the insurable months of October 2008 through July 2009.
How did this insurance contract month settle out? The first two months (October and November 2008 ) show that producers had a better Actual Gross Margin (AGM) than what could have been insured, meaning they had a better cash flow than expected by the LGM for Dairy insurance (EGM, or Expected Gross Margin ). Month Three (December ‘08) AGM was approximated the same margin as the EGM. As you may well recall, things really hit the skids in 2009. Producers who purchased LGM for Dairy insurance for coverage during the fourth through 10th months (January through July ’09) would have had a better cash flow position to the extent of the cwts. of milk insured. Some of the months, as you can see, had indemnity payments in the neighborhood of $5.00 per cwt. of insured milk (with a zero deductible).
This chart is a continuation of the previous one.
It does overlap some, due to the fact that LGM Sales days will allow the opportunity to buy insurance coverage 10 times for a given month.
When an LGM for Dairy indemnity is paid, the total Actual Gross Margin of all months insured will be lower than the total Expected Gross Margin insured. Each month is calculated separately and summed up at the end of the policy period when all the CME and CBOT contract months used for insurance calculations have settled.
If you had purchased insurance as shown by the charted months, you would have placed a margin protection floor for the production covered in the monthly target marketings while leaving the topside open. We recommend a balanced or multi-faceted approach to risk management, with LGM for Dairy being one of the tools that will allow a producer to take advantage of upside opportunities for milk while allowing for the opportunity to capture lower feed prices should corn and soybean meal prices decline.
The best thing to wish for if you have purchased LGM for Dairy coverage to protect your cash operating or current position is to never have to fill out the paperwork if an indemnity is due. Why do I say this? I say this because in real life, the milk price probably went up and feed prices probably went down, and you are quite likely experiencing a sigh of relief that things are going your way for a change!
The above charts are available for viewing at our website www.dairygrossmargin.com
under “Dairy History.” You can print them for further trend analysis. We like to compare the historical price of milk to the actual margin trend. Other analysis tools are available under the same “Dairy History” link.
If you want to brush up on how LGM for Dairy works before the fall harvest season gets in full swing, just give us a call or send an email. We would be happy to discuss LGM or set up a webinar. We are also scheduling some September meetings in the upper Midwest. Call us or check the website for dates and locations.