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Know Your Market

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

Health of the Industry in a Chart

Jun 08, 2012

One way of looking at Livestock Gross Margin for Dairy (LGM-Dairy)—a margin calculation that uses milk prices minus average feed volume/costs.

By Ron Mortensen, Dairy Gross Margin, LLC
 
ron mortensen photo 11 05   CopyThe chart below is a great way to view the health of industry. It is basically a chart of milk over feed costs. It is one way we look at Livestock Gross Margin for Dairy (LGM-Dairy)—a margin calculation that uses milk prices minus average feed volume/costs.
 
The blue lines go back to 1998 and depict the historical view of milk versus feed. There are three time periods when margins were very good (green circles). And there are four periods when margins were very poor (red circles). Dairymen always remember the peaks and the valleys and, when asked, they always have a story about each of these times. 
 
The pink line on the right side of the chart is the futures value of milk, corn and soybean meal combined to yield a margin for the next several months in 2012.  From the dairy producer’s view, the pink line of the chart looks like it is average.
 
But digging deeper, this may not be so. Over the last 10 years, non-feed costs have risen. The two red areas in 2006 and 2009 had a bigger negative impact because the industry had higher overall costs. Also, the 2011 green profit area was very short lived and many producers did not recover their losses from 2009.
 
So average may not be enough.
mortensen   mayfinal2012avcornchartEDAIRYTODAY

Chart available on www.dairygrossmargin.com.
 
If you are using an option strategy or a LGM-Dairy policy which is represented by the pink line, you could lock in minimum margins. These strategies will stop your margins from getting any worse. The options or the LGM policy will kick in and give you additional revenue below this line, if you use a zero-deductible policy.

If the milk prices do move higher (or feed costs move lower), you would get the higher margins or higher revenue.
 
What conclusion does this lead to?  Manage costs, manage margins and manage risk. Every week, others who write in Dairy Today eUpdate suggest ways to manage your margin and risk. Go back and review their comments.  It will be worth your time.
 
Feed – Insights

By the time you get this article, the markets will have experienced a “first.” Corn and soybean meal futures (as well as the other CBOT grain/soy contracts) will have traded through a USDA crop report. Market action, volume surges and the sheer thought of getting numbers and having to trade it without much thought is unnerving. Perhaps the USDA will go back to the schedule in 1994 when crop reports were at 2 p.m.  Then the markets would be closed and everyone in the world would have three hours to review the data.
 
World markets are becoming even more important as China uses more feed for its livestock industry. This has made the next corn crop in China more important. Weather so far has been acceptable in the far north. It is the North China Plain, just south of Beijing, that is now a problem. Temperatures have been soaring, with little rainfall. This area grows about 30% of the China’s corn crop so it will be important as the summer progresses. 
 
Ron Mortensen is a founder of Dairy Gross Margin, LLC, which was formed in 2006 to sell Livestock Gross Margin Insurance to dairy producers. Mortensen’s firm is now licensed in 23 states. He is also president of Advantage Agricultural Strategies, Ltd., which he founded in 1985, to provide individual risk management advice for farmers and agribusiness using futures, options and cash trading strategies. Contact him at 515-570-5265 or ron@dairygrossmargin.com.
 
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