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December 2013 Archive for Know Your Market

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

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

A Closer Look at European Production

Dec 30, 2013

The EU-28 dairy market continues to be a major influence on the global dairy supply.

By Will Babler and Luke Strub, Atten Babler Commodities LLC

While many think of the U.S. and New Zealand markets as those most influencing the world dairy supply, the EU-28 dairy market continues to be a major factor.

The EU-28 market consisted of approximately 30% of the world’s cow milk production in 2012 which was over 1.5 times the U.S. production and over 6.5 times the New Zealand production.

 

The share of total milk production within the EU-28 tends to be higher in northern Europe and lower in Mediterranean countries, with the agricultural importance of the dairy sector varying considerably between Member States. Major players in the EU-28 dairy market include Germany, France, the United Kingdom, and the Netherlands. The aforementioned Member States combined to produce over half of the EU-28 milk in ‘12-’13 (the EU-28 dairy season runs from the beginning of April to the end of March with peak production generally occurring in May).

 

 

During the ‘12-’13 market year EU-28 production decreased by 0.6% YOY due to high feed prices, wet and cold weather in winter, and an early spring. Year over year decreases in production continued in the early months of the ‘13-’14 dairy season, however production has shown recent increases. Milk deliveries have increased by 2.8% YOY from July ’13 – September ’13 with September ’13 production ending up 3.8% YOY. Overall, ’13-’14 EU-28 production is up 0.7% YOY.

 

 

According to USDA FAS, 2014 EU-28 milk output is expected to continue to increase in response to lower projected feed costs and stronger demand for milk products internationally. Increasing recent EU-28 production, coupled with increasing U.S. and New Zealand production, makes for tenuous conditions for dairy producers worldwide. Increases in production have been mitigated by recent insatiable Chinese demand for dairy products, however effects may be felt if the Chinese demand does not persist.

Discussions of the EU-28 dairy market will heat up in the New Year as the expiration of the EU-28 milk quotas approach in 2015. Keeping in mind the overall global dairy supply picture, and how major players such as the EU-28 may affect it in the future, will be of crucial importance in making sound risk management decisions going forward.


Risk in purchasing options is the option premium paid plus commissions and fees. Selling futures and/or options leaves you vulnerable to unlimited risk. Transaction cost used throughout this report includes both commissions and fees. Atten Babler Commodities LLC uses sources that they believe to be reliable, but they cannot warrant the accuracy of any of the data included in this report. Past performance is not indicative of future results. Unless otherwise stated the information contained herein is meant for educational purposes only and is not a solicitation to buy futures or options. The author of this piece currently hedges for their own account and has financial interest in the following derivative products mentioned within: milk.

 

Looking Back and Forward to Livestock Gross Margin for Dairy

Dec 20, 2013

As this closer look shows, LGM-Dairy can help smooth out the valleys in your dairy’s finances.

ron mortensen photo 11 05   CopyBy Ron Mortensen, Dairy Gross Margin LLC

The chart below is a seven-year look back at Livestock Gross Margin-Dairy. It is a reflection of the health of the industry. The light green line is the historical milk (Class III) price, with the light purple line to the right showing Class III milk futures (forward looking). The blue line is milk minus corn and soybean meal – another way of looking at income over feed. The pink line (forward looking) to the right is the minimum margin guarantee offered with an LGM-Dairy policy.

Buying an LGM-Dairy policy is similar to an option. It will guarantee you cash flow. If milk prices go lower, the LGM kicks in. If prices go higher, you will get the higher prices. So, if milk prices fall and feed goes up, an LGM policy will protect you. Note the milk price is the main driver of margins—the green milk line and the blue margin line historically move together.

Perhaps at this time of year, it is beneficial to look at the blue line and remember what happened in 2007 and 2009—the opposite ends of the spectrum on this chart. Your analysis of your finances and your emotions during these two years may say a lot about your operation’s risk management going forward. Tools such as LGM-Dairy can help smooth out the valleys in this chart and in your operation’s finances.

Mortensen graph 12 20 13
 

You can see all months back to 1998 by going to our website.

The analysis below is for the October 2012 sales period. Because milk prices moved significantly lower in the December 2012-April, 2013 period, these policies show good payoffs. Also note that MILC did kick in and had payments for seven months.

If you purchased LGM-Dairy in October 2012, the following table shows the indemnity payouts. If you purchased coverage for more than the first five months, the total payout was significant. Remember the indemnity payments are averaged over all of the months you purchase.

The summary below shows indemnity payments for average feed inclusion. Your specific results may vary a little based on how much corn and meal you put on your policy. The data and calculations were in part derived from the University of Wisconsin LGM-Dairy website. You can evaluate your policy by going here
Mortensen graph b 12 20 13

Conclusion
Look at covering three to four months at a time. Cover 10% to 25% of your production every month. This will start to build a portfolio of coverage over time. If margins get better over time, you will be improving your overall coverage. If margins slip, you will be averaging your coverage as it moves lower.

Below are the final price changes for each month:

December
Expected milk prices 20.34, actual prices 18.66, down $1.68/cwt.
Expected corn prices 7.45, actual prices 7.19, down $.26/bu.
Expected soybean meal prices 482.23, actual prices 458.33, down $23.90/ton

January
Expected milk prices 19.53, actual prices 18.11, down $1.42/cwt.
Expected corn prices 7.46, actual prices 7.26, down $.20/bu.
Expected soybean meal prices 482.23, actual prices 458.33, down $66.47/ton

February
Expected milk prices 19.26, actual prices 17.25, down $2.01/cwt.
Expected corn prices 7.46, actual prices 7.32, down $.14/bu.
Expected soybean meal prices 469.32, actual prices 421.86, down $47.46/ton

March
Expected milk prices 18.98, actual prices 17.00, down $1.98/cwt.
Expected corn prices 7.47, actual prices 7.39, down $.08/bu.
Expected soybean meal prices 462.27, actual prices 433.83, down $28.44/ton

April
Expected milk prices 18.89, actual prices 17.61, down $1.28/cwt.
Expected corn prices 7.45, actual prices 7.20, down $.25/bu.
Expected soybean meal prices 449.37, actual prices 440.63, down $8.74/ton

May
Expected milk prices 18.65, actual prices 18.51, down $.14/cwt.
Expected corn prices 7.43, actual prices 7.00, down $.43/bu.
Expected soybean meal prices 436.47, actual prices 447.43, up $10.96/ton

June
Expected milk prices 18.63, actual prices 18.04, down $.59/cwt.
Expected corn prices 7.40, actual prices 7.05, down $.35/bu.
Expected soybean meal prices 431.49, actual prices 484.88, up $53.39/ton

July
Expected milk prices 18.57, actual prices 17.35, down $1.22/cwt.
Expected corn prices 7.36, actual prices 7.10, down $.26/bu.
Expected soybean meal prices 426.50, actual prices 522.33, up $95.83/ton

August
Expected milk prices 18.52, actual prices 17.89, down $.63/cwt.
Expected corn prices 6.99, actual prices 5.94, down $1.05/bu.
Expected soybean meal prices 413.77, actual prices 424.37, up $10.60/ton

September
Expected milk prices 18.46, actual prices 18.13, down $.33/cwt.
Expected corn prices 6.62, actual prices 4.78, down $10.84/bu.
Expected soybean meal prices 395.80, actual prices 468.10, up $72.30/ton

Ron Mortensen is principal of Dairy Gross Margin, LLC, an agency that specializes in LGM-Dairy products, and owner of Advantage Agricultural Strategies, Ltd., a commodity trading advisor. Contact him at ron@dairygrossmargin.com or visit his website at www.dairygrossmargin.com.

Following the Cues of Market Traders

Dec 16, 2013

Fundamental factors, speculators and market psychology play their parts in the dairy market.

Kurzawski photo 2013By Dave Kurzawski, INTL FCStone

Fundamental factors related to supply and demand are still king when it comes to dictating long-term price direction for dairy markets. However, futures market prices generally anticipate the shift in direction long before the fundamental data reflect this change. This phenomenon often leads novice traders to believe that others in the marketplace already own the "answers to the test." Of course, even the notorious Duke brothers in the movie Trading Places proved that having the data prior to a major report’s release isn’t an infallible trading method.

Market psychology often differentiates one trader from another. In its simplest form, it is the difference between being an anticipatory trader vs. a reactionary trader. Anticipatory traders sell into price strength and buy price weakness. Reactionary traders do the opposite. In futures trading, sometimes size does matter. Although there are exceptions, traders with large positions are primarily anticipatory and traders with small positions are primarily reactionary.

As its name implies, a futures market is a price discovery mechanism. It is a daily consensus of where the entire dairy industry feels prices will be at some point in the future. Futures markets — including milk markets — epitomize the old adage that the whole is greater than the sum of the parts. However, it also is important to separate traders into different groups and see what side of the market they sit. After all, a hedger’s agenda in the futures market is often quite different than that of a speculator.

The Commitments of Traders (COT) Report is one of the most important, yet under-utilized reports offered to dairy market traders. Released every Friday afternoon, the report subdivides every futures contract into three main trader groups: Commercial, Non-commercial and Non-reportable. Commercials are represented by both buy side and sell side hedger with large positions. Both Commercial and Non-Commercial traders must report their positions to the Commodity Futures Trading Commission (CFTC). Non-Reportables are either smaller hedgers or speculators with less than a pre-determined level of futures contracts in any one month depending on the commodity.

The Non-Commercial category is further sub-divided the Non-Commercials into "Swap Dealers", "Managed Money" and "Other Reportables." For the purposes of this article in particular, and dairy markets in general, the Non-Commercial categories are listed by and large under the moniker of "speculator."

Of all categories, it is the Non-Commercials, or speculative categories, who often are the most intriguing group to monitor. Unlike hedgers, they have no loyalty to either the long or short side and tend to shift positions when they anticipate a future change in market fundamental indicators.

To give an example of this, recent Class III market activity – our most liquid dairy market - suggests that the speculative money in Class III is leaning toward the short side of the equation as seen in the chart below. It’s interesting to note that with bullishness due to burgeoning export demand, the COT Report gives us some insight into anticipatory traders potentially looking for a shift in sentiment heading into the New Year.

Meanwhile, the Commercial category – or large hedger activity – is showing a growing long position. This means that commercial buyers are gaining more futures/options market coverage than dairy producers. In other words, buy-side hedgers are scrambling to get coverage while producers are given a sense of price security due to price strength over the past several months. That price security is keeping those who did not already hedge on the sidelines, which is can be dangerous as a "feeling" of price security does not equal profit margins.

Overall the COT Report is not a looking glass into the future. It is, however, a summation of market sentiment that should not be overlooked. And in this case, as export demand reaches a fevered pitch, the COT Report is showing that, by and large, those who are purely looking to profit on paper trades are not as bullish on early 2014 price strength as the news would have you believe.

Dave Kurzawski is a Risk Management Consultant with the Chicago office of INTL FCStone. INTL FCStone offers comprehensive risk-management and margin hedging programs and services to dairy producers, processors, traders and end-users. You can reach him at Dave.Kurzawski@intlfcstone.com.

Wade into the Feed-Price Protection Pool

Dec 09, 2013

New to risk management? One simple way to get started is to use call options to lock in some protection for feed.

Scott Stewart   CopyBy Scott Stewart, CEO, Stewart-Peterson Inc.

While attending the Elite Producer Business Conference last month, I was struck by a new sentiment among some of the dairy producers I talked with. They recognized they ought to be doing something to protect themselves against market risk; they just are not sure where to start.

Hesitation to get started marketing is nothing new. The twist here was that these producers had the perception that engaging in marketing was a big risk, like a jump off a high dive into the deep end of the pool. They feared taking a big jump, and as a result they were not doing anything. I fear for these producers, because effective risk and opportunity management is key to surviving and thriving in this new era of volatility.

Producers only have to get their feet wet to get started. It’s not necessary to go "all in" on your marketing when you’re first getting started. In fact, it isn’t advisable if you do not know what you are doing. When markets are volatile, you need to either be an expert or hire one.

You don’t develop expertise overnight. A high diver likely waded into the shallow end of the pool when he first learned to swim. If any of this describes you, and you are thinking about wading into the waters of risk management, here are some thoughts for getting started.

Feed prices are at some of the most attractive levels we’ve seen. Corn is down approximately 50% from its high of $8.44 last summer. In fact, corn has been down 10 months in a row, and down 15 out of the last 16 months. From a technical standpoint, that is quite a sell-off, making the market very susceptible to a severe upward correction. In addition, there are several fundamental reasons to believe that the risk of the corn price going higher from here outweighs the opportunity of the corn price going much lower from here. These reasons include demand renewal, export commitments and ramped-up ethanol production.

Now would be a great time to lock in some protection for feed. One simple way to get started is to use call options.

Let’s say you need to purchase 5,000 bushels of corn on April 1. Between now and then, the price of corn, and therefore your cost, could be much higher. Since the April 1 price of corn is currently unknown, your risk is effectively unknown as well. A simple means of limiting and defining your risk is to buy a call option that will protect you from higher prices until the time you purchase your corn feed. If the price of corn does indeed go higher, the option gives you the right to purchase corn at a lower price sometime in the future (plus commission and fees and the cost of the option). If the price of corn goes lower, our option would likely be worthless; however, for a relatively small price, we have given ourselves protection against a big risk of higher prices.

Now, options have all sorts of layered strategy opportunities that allow you to take advantage of any volatility that might be in the market. I would not advise anyone to try these tools until you are comfortable with the simple strategies. Just know that these tools exist, and the purpose for using them is to gradually, over time, bring down your overall cost for feed while protecting yourself from big price run-ups that drain your profitability.

Now is the time to ask questions and learn. Whoever you choose to work with for the above positions, make sure you understand the advice, communicate well with your advisor, and trust the advisor. Develop a relationship during the learning process. Expect that you will be educated and made to feel comfortable along the way.

No matter what tools you choose to apply in your beginning stages, be consistent in following through to the end result. Moving in and out of positions will not help you learn; it only will cost you money. Consistency means 100% commitment to following through on your agreed-upon strategy, even when a news headline or a second guess tempts you to abandon your position. On the other hand, know that 100% commitment to marketing does not mean you have to risk all of your production. It simply means you will follow through on your strategies and give them fair evaluation. Often times, fair evaluation takes time to unfold, underscoring the importance of sticking-to-it despite emotions.

Feed is the number-one cost center on your dairy, and fortunately, it is one of the easiest places to dip your toe into the price risk management waters. We suggest that you test the waters now, before a price correction hits and you are learning in a high-price, high-pressure environment.

S P Corn Chart 12 6 13 a
This chart shows corn’s large price decline from the summer high of $8.44. The front month contract has come down to reach a long-term uptrend line of support drawn using the 2005 and 2009 lows.The probability of this upward trend line holding through the middle of next year outweighs the probability of the market falling substantially below this trend line.

 

Scott Stewart is CEO of Stewart-Peterson Inc., a commodity marketing consulting firm based in West Bend, Wis. You may reach Scott at 800-334-9779, or email him at scotts@stewart-peterson.com.

The data contained herein is believed to be drawn from reliable sources but cannot be guaranteed. This material has been prepared by a sales or trading employee or agent of Stewart-Peterson and is, or is in the nature of, promoting the use of marketing tools, including futures and options. Any decisions you may make to buy, sell or hold a futures or options position on such research are entirely your own and not in any way deemed to be endorsed by or attributed to Stewart-Peterson. Commodity trading may not be suitable for all recipients of this report. Futures trading involves risk of loss and should be carefully considered before investing. Past performance may not be indicative of future results. Copyright 2013 Stewart-Peterson Inc. All rights reserved.

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