The markets have not been quiet this summer—and, while the August report has given us some indication of USDA’s expectations, yield uncertainty will continue to drive the corn and soybean sectors, as will an overall change in the tone of the markets.
It all goes back to the wheat complex. As we all know, the Russian drought plus the poor condition of this year’s U.S. wheat crop led to a rally from $5 to $8 in less than 30 days. This was an eye-opener for end users; if demand remains stable and corn carryover moves below 1.2 billion bushels and beans below 300 million bushels, there is little room for additional supply surprises. End users vividly remember 2008’s price action, and all the talk about inflation has them wondering if they should lock up inventory. I anticipate strong buying on any modest fall correction—say, December corn below $3.95 and November beans below $9.
Implications for sellers: More or less, it’s the same old game. Maintain focus and discipline. Concentrate on protecting your bottom line; there could be a lot of volatility, which implies a lot of stress for decision makers. Develop your plan and then put it to work.
For prices to mimic a 2008-type scenario, the following needs to happen: 1) crude oil prices exceed $100 per barrel; 2) corn carryover drops below 1.1 billion bushels; 3) 2011 planted acres stay below 89 million; and 4) a yield reduction event in 2011 pushes yields below 162 bu. per acre. The odds of all of these things happening are less than 25%.
Be a strong seller of the carry. If the December 2010 to July 2011 spread exceeds 30¢, roll your December hedges forward. Don’t worry about locking up basis until spring.
For 2011 corn, assume a cost of production close to $3.50 per bushel and 175 bu. per acre production. The December 2011 contract should offer an opportunity to lock up at $4.50. If you roll forward to July 2012 and capture at least 15¢ more than storage cost, you’ll pocket $4.65, or $1.15 above all costs, which is a 33% return on investment.
In the long run, this level of profit must be protected. Therefore, focus on selling December 2011 between $4.40 and $4.60 and then wait until April 2011 to buy a July call option to protect against spring weather concerns.
Final note: If the market were to experience a 2008-type price event in 2011 because of inflation expectations or a dry-weather event, it should be viewed as a multiple-year selling event. I cannot stress enough the importance of starting to plan now with your banker, elevator operator and business partners to avoid constraints on cash flow exposure and lack of control on input costs. You need to devise a game plan now.
Old-crop bean supplies are tight and sending the cash market to a premium above the futures price. The market has limited carry because it wants inventory now, not in the future. So until the new crop comes on board, the bean complex will remain strong.
Downside risk: If we can muster a bean yield higher than 43 bu. per acre, we will keep carryover at a solid level. South American acreage will likely increase, so odds favor world supply at an adequate to increasing level. Normally, this would be very bearish, but the Chinese are on an
aggressive buying spree.
Because harvest prices could be strong as everyone tries to maintain control of inventory, old- and new-crop beans should be moved as they are harvested. Storing beans at these value levels is simply too high-risk.
Assuming 2011 cost of production around $8 per bushel for 50 bu. per acre production, it will take a November 2011 off-the-combine cash sale of close to $11 to approach a $150 per acre profit. This may be a little strong since we are currently trading at the $10.20 level, but the tone of the market suggests there is time and room for prices to move. To establish a solid marketing plan, place orders starting at $10.75 and be done by $11.50. I suggest establishing the first half in hedged-to-arrive contracts or put options and the last half in straight short futures.
All I can say is wow, was I wrong about the upside potential of wheat. It took the worst drought on record in Russia coupled with a very poor U.S. crop to prove me wrong. I really did not see this wheat rally coming this fast. Now that it is here, if you had cash wheat to sell, I hope you took advantage of the $3 rally in August to retire your inventory and start looking hard at 2011 sales.
With speculators excited about the wheat market, if any other wheat-producing country—say, Canada or Argentina—has any disruption in supply, we could repeat the 2008 price event. I personally think the odds are less than 20%, but that chance cannot be ignored. With that in mind, what do we do about pricing 2011 wheat?
With the current prices for July 2011 above $7.80, it would be good to be close to 75% sold. This is especially true if you double-crop wheat with beans. When you can start netting about $175 per acre above your operational costs on a wheat-bean crop, you need to be short.
Remember, if the prices are good enough to get you excited about planting wheat this fall, then they are traditionally good enough to sell wheat as well!
- September 2010