What the Stock Market Has to Do with Milk Prices
May 15, 2014
Milk prices have soared partly because commodities have risen to asset-class status. CME trader Chris Robinson explains this new driver and what it means for dairy producers.
By Chris Robinson, Top Third Ag Marketing
What a difference 24 months has made to the bottom line of agricultural producers and end users. Flash back to September 2012 when we had the CN14 (July 2014 corn) flat price on the board trading at a contract high of $6.76 per bushel.
Ironically, those record high prices created complacency in many grain producers, who became convinced that sub-$5.00 per-bushel corn would not been seen again for decades. In reality, those highs set the stage for a 16-month downward swoon, punctuated by the 4-year low posted 16 weeks ago, down at $4.21 ¾. This $2.55-cent break represented a 38% drop in price. For producers who had not hedged against that loss, this was a negative for their bottom line. However for end users, this was a true blessing to have your input prices drop sharply.
As a milk producer, you also saw the reverse move in the value of your output. Class III milk was trading a board flat price at $14.50 in the fall of 2012. Just two weeks ago, milk traded to a record contract high of $23.00, for a gain 8.50 or 59%.
The first driver for demand for milk has been the Chinese decision to allow families to have a second child. In a country of 1.3 billion souls, even if only 3% of the families decide go forward with a second child, that is a demand wave which has supported higher milk demand and therefore higher prices.
In my opinion, the second biggest factor driving higher prices in commodities has been the investment community’s group-think decision to treat commodities as an asset class. Because of that decision, you have seen record inflows of investment capital into both the grain and livestock markets.
The logic behind the decision to monetize commodities as an asset class has grown from a concern regarding record-high levels in the stock indexes. Back in 2009, many investors exited the stock market during the panic lows. The Dow traded down to the 6,500 level while the S&P500 traded at 670. The recent record high in June Dow futures (as of May 12, 2014) was 16,675 and the high in the S&P at the 1892.75. This pencils out to a 150% gain in the Dow and a 180% gain in the S&P 500. The investment community has bought commodities as a hedge against an untimely severe down-draft in the stock indexes. It also has the long commodity positions as a hedge against inflation coming back into the market due to the expansion of the money supply as the Federal Reserve has implemented Quantitative Easing.
Bottom line, the world markets are all interconnected today at the speed of light. Something that happens while you are asleep could have drastic impact on your bottom line as a producer.
So what’s a producer to do? If you would suffer emotionally or financially in the wake of sharp or sustained drop in value in the market price for your milk, then you need to set a hedge. Vice versa, if you would feel financial pain watching the spot price of corn or your feed inputs spike up this summer, then you need to set a hedge to protect against that.
Good risk management is about protecting your business bottom line and not letting your emotions rule your marketing plan. A proper hedge plan should be priced into your operating budget the same way you budget for everything else that affects your business bottom line. As with all decisions regarding your bottom line, you owe it to yourself to learn as much as you can before you start hedging. Working with a well-respected broker or advisor can make hedging decisions less intimidating.
Chris brings over 23 years of experience to his Top Third clients. He began his career as a broker and analyst in 1991 with a Chicago firm which specialized in cash grain trading and hedging. In 1992, Chris became a member of the CBOT. He joined Top Third in January 2010, capping an 18 year career as a floor trader and broker. Today, in addition to his Top Third duties, Chris is a featured grain and livestock analyst for the CME. He is also featured on weekly video summaries with RFDTV. In January of 2013, Chris became the lead broker for the Pit bull division of Top Third. This is a separate branch of the company that is involved with traditional speculative trading and is separate from the hedging arm of Top Third. Chris is a 1988 graduate of Colgate University with a degree in Political Science and Economics. Contact him at firstname.lastname@example.org.
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