Defend the Yield Potential

March 7, 2014 08:41 PM

 I enjoyed speaking to several of our Farm Journal readers this winter. It appears many farmers sense a storm is coming; will it be a soft summer rain or a full-blown spring tornado that destroys everything in its path? We need to watch these three dominant macro events for all ag commodities. FJ 105 F14169

1. Weather
. I do not have any special skill set to predict the weather, so I leave that up to meteorologists. The impression I’m getting is we have a neutral outlook for the northern hemi­sphere in regard to El Niño or La Niña. Granted, some parts of the Western Corn Belt are starting out dry, but most of the primary corn and soybean production regions have seen decent moisture. If we don’t have any planting delays, once the crop is planted, the burden of proof for trend yields will fall squarely on the bull. Assume average yields in selling strategies, but defend against weather events if conditions change. 

Looking forward to the next several years, however, I agree with weather experts that yield variability will be even greater. Farmers will need extra protection for hedge positions going into spring and summer in order to not leave a lot of price-gain on the table if a yield reduction occurs.

2. Farm bill.
Now that the farm bill has finally passed, farmers are trying to figure out what program to choose. When considering your options, pick a program that will give you the most downside risk protection. The farm bill, along with crop insurance, will help put a floor under the market, but you must take advantage of solid pricing opportunities to ensure a profit.

3. Land values
. The profit margins we saw in 2003 to 2013 will be very difficult to repeat in the next 10 years. The revenue-to-cost relationship will tighten up average historical levels, which means the current land values cannot be supported. If anyone has land to sell in the next three years, do it immediately. Anyone wanting to buy land should delay doing so as long as possible; build your war chest and only buy if it absolutely fits with your operation. 

For now, I recommend farmers grow their land base through cash renting, not buying land. I know many readers don’t like this path, but cash is king  and will continue to be for several years. Farmers started to price some corn in January and February, but there is still a lot to sell. With low interest rates and very little alternative places to put money, farmers might as well keep it in the bin and hope for a price event to bail them out. If yields are above 158 bu. per acre and we plant 92 million acres, overall supply will be adequate to keep carryover very close to 2 billion bushels.

April to May will be a critical time period. If the crop gets planted, it will be extremely difficult for the market to rally unless hot and dry weather sets in throughout the Corn Belt. Lock up the basis for all old crop and off-the-combine cash sales immediately and then price out the 2014 crop as soon as it gets planted this spring.

New crop corn.
If you followed my recommendations, you are already heavily sold in artificial puts and have all the benefits of a put structure without the time-value cost. On 2014 new crop, I would not want to be net short futures or straight cash sales until we get past the June USDA Supply and Demand Estimates report. 

Aggressively establish short positions in the same time period as old crop sales—mid-April to mid-May. Remember, crop insurance rates were determined in February. If you have a $4.50 average and took out 80% coverage, you will have coverage below $3.60. You must defend the difference between current price levels and when crop insurance really kicks in.

I’m reluctant to give a target price because how and when to sell is now more important than the flat price. However, I would start at $4.60 basis for the December 2014 and be done by $4.95 via buying deep-in-the-money puts and selling nearby out-of-the-money puts to help reduce the time-value decay cost. Again, I’m reluctant to sell cash until the June or July time frame. The old crop bean market has surprised me a little with its late February strength. Strong Chinese buying, along with the need to assure the big crop gets out of South America, have kept old crop soybeans strong. I also sense farmers have cleaned out their bins, so there is not a lot of inventory to sell at this time. 

This strength in old crop soybeans is exactly what farmers have been hoping for to pull up new crop prices. However, with the potential of more than 80 million acres and trend-line yields, carryover could more than double by this fall. End users know this and are content to simply wait and not bid up the markets. 

The real risk is for the producer. Once carryover levels start to build, the market will have to break to clear inventory and stimulate usage. 

It’s difficult to suggest how low that break will be, but a quick review of the historical lead-month high-to-low range finds that the low for the year is usually 25% of the high. So, if we confirm a lead-month high around $13.60, we can project a fall lead-month low around $10.20 futures. This price, with a wide basis, places cash values at or below the cost of production. Thus, it would be prudent to take closer to the 85% coverage level for soybeans, even when it costs more. 

With strong export demand, supplies could turn bearish in late June to early July. Protect the $10 to $11.40 level in November soybeans, but have flexibility to react to higher values if dry weather comes in July and August to ignite prices.Big yields in Canada and India have now been absorbed into the market near-term, and all eyes are on the amount of winterkill in the U.S. 

Overall, global stocks are more than adequate. The February bounce should be viewed as a simple bounce in an overall bear market rather than the start of a new bull market. 

So, do you take $6 or wait for higher prices for unpriced 2014 wheat? Don’t push the wheat market too much more. Set a deadline to sell all inventory off the combine using cash sales rather than futures or puts by mid-March. 

If there is no storage capability, there is some carry incentive. If farmers rolled hedges into the December contract this past fall expecting a seasonal bounce, they might want to look at rolling them back to July before the March supply and demand report. The July futures will likely drop faster than the deferred contracts into harvest, as well as put carry back into the market and justify storing wheat into the fall.

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