We’re only a month into the new year and the grain market has already experienced significant price rallies to levels that are getting the attention of political leaders worldwide. In early January, the G-20 meeting focused on the increase in world food prices. While we’re simply in the early stages of jawboning prices down, the political reaction to higher prices will rise to a fever pitch if we see a global supply reduction event anywhere in the world by a major producer. The impact short-term is limited; long-term, it is hard-core!
The question that I suspect is on the mind of many is, "How high is high?" Well, it depends on your assumptions.
Chinese buying spree. How far will Chinese officials allow grain prices to rally before they really clamp down? They are quickly approaching $20 a bushel for soybeans and $9 a bushel for corn. While this is a concern, China does not appear to be slowing down its purchases. The country wants to keep its animal numbers up, but at some point soon it will cut back. I suspect the Chinese will continue to buy what grain they need and focus on trying to acquire more production from South America and the U.S.
Acreage battle plays out. Right now, we have a very powerful economic environment where almost everything being grown on land is at a high price, which is motivating producers to plant. In the short run, I question if there is enough "underutilized land" to meet the demand. I expect the number of cotton acres to increase in the South at the expense of corn and soybeans. We should see wheat acres up, which also puts pressure on soybeans and corn acreage growth out west. This could create a situation where the nontraditional corn production regions will be hard-pressed to hold onto all of the corn acres they’ve planted in the past.
Is it likely that corn and soybean acres will jump in the traditional corn production states? It has been my observation that while the trade might talk about switching acres, most producers don’t like changing their crop mix unless Mother Nature forces them to. Conclusion: It’s going to be difficult to get a surplus of corn and soybean acres planted this year. We may just get enough, but any yield reduction event will force prices higher to ration usage.
The stage is set. Stocks should get tighter for corn and soybeans, as all products will be aggressively bidding for acres. Demand will remain stable but start to show rationing midyear. At that point, the focus shifts to the weather. A tremendous amount of field work was completed this past fall. The odds are high for us to get crops planted early and subsequently allow a mild price break from late April into May.
I can’t stress enough that if after mid-April we start to see lead month corn and soybeans take out the winter highs, all sellers need to become extremely cautious.
If new highs start to develop as we move into May, this will be a solid sign by the trade that supply is being impacted and prices need to move higher to ration usage. In this situation, it’s quite possible that prices could surpass the 2008 levels.
So what should you do now? First, remember that the market is giving returns above an average cost of production that has rarely occurred at this time of year. If prices remain high in February as I suspect, the federal crop insurance payments could be outstanding. Use the federal subsidy program to establish a floor for as large a percentage of your expected 2011 crop as you can afford and limit upside risk with a modest call option. Above all, keep cash-flow exposure low for the expected 2011 crop and reserve the marketing line of credit for the expected 2012 and 2013 crops if we experience a weather event in the May-to-July time period.
Second, get a plan written down and get your banker, your partners and your wife to agree to the market plan and then stick with it. Remember, your plan should have a strategy for both bullish and bearish market potential. Everyone is talking about a crop failure, but what happens if there are good planting conditions and the hybrids kick in and there is a bumper crop? Be prepared for both spectrums to occur and respond accordingly.
Sales index: 8
Start placing orders to sell 100% of expected 2011 corn between $5.80 and $6.50 basis the December, preferably in the cash market if basis bids are not too out of line. Take out crop
insurance to assure the maximum bushels possible. As for revenue guarantee, push the numbers, but know it could be a real possibility. Finally, get some level of upside call option price protection insurance, such as having a December $6.50 call in place until at least early July.
As for anticipated 2012 production sales, look aggressively in the June-to-July time period if a weather event occurs. To make it easier to sell, buy September or December out-of-the-money $8 calls and sell deep-out-of-the-money December puts. Hold this position until late June, then liquidate if no weather problems develop.
Bottom line: Lock up good profits before planting the 2011 crop with as little cash flow as possible. Then be in a position where you can aggressively sell expected 2012 and 2013 crops if a price event occurs.
Sales index: 7
Start placing orders in the cash markets to scale up selling 2011 starting at $14 and finishing up by $15 for 75% of expected 2011 production. These levels of sales give
The only issue is: Do producers want to spend a little money now for the security of upside price protection? Focus on a $4 vertical call strategy in the November 2011 contract as close to 75¢ as possible. It basically comes down to spending 75¢ today to have a $3.25 upside potential if a summer weather event occurs. As for selling anticipated 2012 production, wait until August before you start to worry about next year.
Sales index: 7
Wheat is gaining momentum with help from the other commodities. While acres are up, some acres could be lost if crop conditions deteriorate and competing commodity values get too high. Develop a hedge position for up to 75% at the $9 to $10 level for expected 2011 inventory. Wait
until April for increased sales.
Bottom line: Take your lead from corn, soybeans and cotton; as long as they are advancing, be a slow seller. Have flexibility when pricing—a cash, call or long put is preferable to short futures sales at this time.