Reward and Risk at the Elevator

November 9, 2016 02:48 AM
 
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Diversify marketing strategies to limit financial losses

Ohio producer Nathan Fortkamp claims he lost thousands of dollars in potential soybean profits this summer when his longtime grain merchandiser, Bunge, sold 10% of his expected crop before a rally that raised prices by nearly $3 per bushel.

He learned about the losses, along with other farmers, on a monthly conference call with analysts.

“The further we got into it from June to July, our hearts started sinking,” recalls Fortkamp, 23.

In August, Reuters revealed the June soybean rally to nearly $12 per bushel caught a lot of people off guard and revealed additional farmer losses, referencing interviews with five producers who worked with either Bunge or Cargill. Early sales reportedly happened closer to $9.

The case doesn’t highlight a need for more regulation of merchandisers or elevators, says Scott Irwin, ag economist at the University of Illinois who studied sales advice of agricultural commodity advisories for 15 years. Farmers sign contracts with both that spell out the possible risk of financial loss—risks common to many financial transactions such as investing in a mutual fund. Instead, he says, it points to a gaping problem with many farmers’ marketing plans: They try to time sales to beat average market returns when scientific evidence suggests just 1% or 2% of marketers in any financial category are capable of actually doing it successfully.

“We’re arguing farmers need to be better diversified across approaches and think of it from that perspective before drilling down into particular narrow questions about this ProPricing versus that ProPricing type of program,” Irwin says. “Even if an advisory service is not all that great in terms of beating the market, it still may be a step up.”    

Cargill officials addressed the timing of the sales in face-to-face meetings with farmer-customers, says Antonella Bellman, communications leader for Cargill’s Agricultural Supply Chain North America group.  

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She declined to quantify how much additional profit farmers could have obtained, noting the amount of grain Cargill trades is proprietary. Overall, Bellman says, the ProPricing program beats market averages 89% of the time, is entering its 17th year and has generated $300 million for farmers in the past six years. 

The soybean rally earlier this year proved to be an anomaly, she says.

“All the leading market indicators showed the price going even lower than $9 for the bushel pricing, so Cargill took that information, along with guidance from its world trading unit in Geneva, and they made the decision to sell at $9,” Bellman points out. 

Multiple Strategies. Fortkamp, who is assistant manager at his family’s Fort Recovery operation, says he’d go back to Bunge for future sales if he were to expand acreage. His family farms 500 acres with two-thirds corn and one-third soybeans, and raises 410,000 laying hens. He plans to market his own soybeans in 2017.

Other marketing strategies his team uses include futures hedges and basis plays timed to the needs of local millers that serve both chicken and livestock producers. 

“We were promised that Bunge’s merchandisers are making the opposite hedge since they’re buying grain as they are for us selling grain,” Fortkamp says. “I think they kept that promise. They lost pretty big on their own trade this year.”

On average over the past six years, Bunge made him 10¢ to 15¢ per bushel more than the futures price for soybeans at harvest time.

Like the university’s Irwin, Kevin McNew, commodity broker and manager at Grain Hedge in Bozeman, Mont., thinks the best approach for farmers is to spread risk by working with multiple third parties including merchandisers and commodity brokers, and to use several marketing tools for grain. 

“Pretty much everyone else got caught in the big rally in soybeans that started in March,” McNew says. “Bunge had no better insights than anyone else into the market space.”

USDA grossly underestimated soybean demand and overestimated carryover, promoting bearish market sentiment, adds Chip Flory, host of “Market Rally” radio. 

“With prices below breakeven (at actual production history yields), most advisers and farmers agreed the right strategy was to start making sales when and if profits could be made,” Flory says. “That’s what they did. Some sales started in the low $9. We trapped the market. It’s a responsive cash-market strategy. It worked and we got a chunk of the rally, but not all of it.”

What Does It Mean To Me?

• June’s soybean rally exposed the risks of marketing with third-party advisers.

• Physical grain sales receive less regulatory oversight than futures trades.

• Experts advise managing risk by diversifying with multiple marketing aids. 

Every marketing year is different and offers many unexpected price moves, adds Chris Barron, Iowa farmer and Top Producer columnist. He recommends all farmers read the book “Extreme Ownership,” by Jocko Willink and Leif Babin because it highlights the need to take charge of business decisions, even when services are provided by a third party such as a grain merchandiser. 

“We have to own up to that,” Barron points out.

Merchandiser Silence. To understand how merchandisers work with farmers on grain sales, Top Producer requested interviews with representatives at Bunge, Cargill, ADM, Louis Dreyfus, Gavilon and Wilmar International Ltd. on three topics: 

  • How do you prevent making sales before a market peaks?  
  • What conversations do you advise farmers to have with your organization or other commodity advisers before sales are made?
  • What steps are you taking to build farmer confidence in a way that will help them secure profitability?

Cargill’s Bellman agreed to comment. She says Cargill has worked directly with farmers affected by the early soybean sales and encourages producers to ask any third party that helps sell grain about its depth of experience and years of commodity sales activity.

The other companies declined to comment. In a phone call, Susan Burns, director of global media relations and agribusiness communications at Bunge, said she forwarded the request to the appropriate person in the company’s North American operating division and that they would be in touch should they have interest in an interview. The representative did not reply. 

“We don’t have anyone available for an interview on this topic but appreciate you reaching out,” wrote Jackie Anderson, ADM media relations, in an email.

Writing for Louis Dreyfus, global communications representative Eleni Androulaki stated: “We have given careful consideration to your request, and appreciate the opportunity you are offering. Following discussions with our U.S. team, though, I’m afraid we are unable to comment further on this topic.”

Gavilon and Wilmar did not respond to emailed requests for comment by press time. 

Regulatory Variations. No matter who sells your grain, regulation is in effect in some form or fashion (see the box on this page). For futures transactions, regulatory authority is housed in the U.S. Commodity Futures Trading Commission (CFTC), an independent federal agency funded by taxpayer dollars, and the National Futures Association (NFA), a member-funded nonprofit.

Grain merchandisers and elevator operators are licensed and regulated by state departments of agriculture, which ensure scale calibration and payment for grain deliveries. 

Contracts between farmers and grain buyers spell out the financial risks of working with merchandisers and elevators, Irwin says, meaning there isn’t a need for regulatory recourse if a sale is made at an inopportune time. Producers can weigh risks by reading contracts.

“Farmers should aim to understand ... [a] merchandising plan’s potential benefits and hazards,” says Sarah Alsager, public information officer for the Missouri Department of Agriculture in Jefferson City. “How is the merchandiser offsetting your contract positions?”

The NFA doesn’t have authority over transactions like the one involving producer Fortkamp, according to a representative. 

“NFA is the self-regulatory organization for the U.S. derivatives industry and does not regulate cash transactions,” says communications manager Kristen Scaletta.

CFTC officials could not be reached for comment by press time.

Need To Screen. Ask potential marketing advisers a series of questions (see the box on page 24) to learn more about their trading history, their view of the commodity marketplace and the structure of sales, recommends Jerry Gulke, president of the Gulke Group. That will help you understand whether you’re committing bushels at a fixed price or have flexibility to reprice as conditions change. Above all, Gulke says, producers need to spend as much time studying marketing and macroeconomics as they do planning agronomic decisions for the next season. By doing that, they’re much less likely to be caught up in the rose-tinted glow of a marketing adviser’s commodity projections.

“When I talk to my agronomist, I look and listen and think, ‘Is this really true?’” Gulke says. “I talk to someone as smart as he is, or an experienced farmer … . If [my agronomist] says, ‘We tried this,’ and he’s just taking it out of some book, then it’s my responsibility to decide if I want to follow that advice. 

“While it is desirable to pass off the important task of marketing, there is no easy path to marketing success. It requires due-diligence and, in the final analysis, the buck stops with the farmer.”


Five Questions to Ask Before Hiring a Grain Merchandiser or Broker

Don’t work with a grain merchandiser, commodity broker or other types of advisers before learning their history and market assumptions, says Jerry Gulke, president of the Gulke Group in Chicago. Here are some of the questions he recommends asking ahead of any conversations about sales.

1. What market fundamentals do you use in making recommendations?
2. How do you make decisions about commodity sales?
3. What biases, if any, do you have?
4. What global factors are used in your marketing decisions?
5. Which technical indicators do you monitor, and why?


Who Regulates My Grain Sales?

Depending on which people or institutions market your grain—and how the transaction is completed—the sales might be overseen by the National Futures Association (NFA), the U.S. Commodity Futures Trading Commission (CFTC), your state department of agriculture or none of them. 

CFTC. An independent and taxpayer-funded U.S. agency tasked with oversight of select contract markets, futures commission merchants, commodity pool operators and more tied to agricultural commodities, oil, precious metals, stock indexes and others.

NFA. The independent nonprofit is self-funded by mandatory membership fees from any person or institution doing business on U.S. futures exchanges or retail forex marketplace. It enforces rules tied to commodity futures to “safeguard market integrity” and investors. 

State Agriculture Departments. Each sets its own rules. Commonly, they have authority to protect grain producers whose grain is stored at commercial licensed warehouses and elevators and to provide assurance that producers will be paid for delivered grain, even if a warehouse shuts down. Additionally, states often audit grain buyers annually by physically examining grain and conducting a financial inspection.

None Of The Above. Contracts between grain producers and grain merchandisers are not regulated by NFA, CFTC or state ag departments. “Many contracts are made between producers and grain merchandisers that are not at market highs,” explains Sarah Alsager, public information officer with the Missouri Department of Agriculture. “A key best practice would be communication between the merchandiser and the producer. Take steps upfront to ensure the producer understands the potential benefits and the potential hazards of any merchandising plan.”

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