Worried you might miss out on some of the market’s upside potential? Here are tips to consider.
By Katie Krupa, Rice Dairy
One of the biggest fears producers have when creating a risk management strategy is that milk prices will move higher, and they will "miss out" on those higher prices in their milk check. While I would like to say that all producers implementing risk management strategies are happy because they are protecting their profit margins and making money regardless of price fluctuations, we all know that is not the case.
Ideally, risk management strategies should be set up to reduce anxiety and stress, but, often times when prices move higher, just the opposite happens. When prices move higher, many producers find themselves glued to the computer screen, calculating their "missed opportunity" to the penny.
Below are a couple tips and strategies to help break that nasty habit.
1. Remember the true reason for risk management. Risk management in any business is a way to reduce risk and provide a more stable and sustainable business. Whenever you implement a risk management strategy, you will ultimately be removing some of the potential reward in order to obtain less risk. But the benefit gained should outweigh the potential missed opportunity. This is the topic I struggle with most when talking with dairymen since most are natural risk takers. Dairy farming is not for the faint of heart or the risk averse.
2. Implement a strategy that will allow you to capture the upside potential. Not all risk management strategies were created equal – some fix your price, some protect your price from downside risk, and some can create a minimum and maximum price. These milk price strategies also can apply to feed prices so that you can protect your two most variable prices. Unfortunately, there is no one strategy that works for everyone. Typically, I help producers choose an appropriate risk management strategy based on financial needs, current market conditions and the producer’s personality. Again, it is important to remember that, with any strategy, there will be some fees or premiums that will need to be paid, regardless of high or low milk prices settle.
3. Be nimble. While it is important to create a risk management strategy and not a speculative trade, it is also important to be able to adjust your strategy if the market changes. For example, if you cap your milk price for the next six months, you want to make sure that you are either totally satisfied with that strategy, regardless of low or high settlement prices, or you have a way to adjust the strategy if you feel the market is changing. After discussing possible strategy changes and the associated costs, some producers will choose to just implement a different strategy upfront so they can benefit from potential higher prices. Either way, it is always important to discuss all your options, and know that there are various strategies you can implement or adjust if the market should change dramatically.
This topic is currently important because many producers are considering hedging for the remainder of the year but are concerned that they will execute a strategy and ultimately miss out on some of the market’s upside potential. While no one knows what the remainder of the year will bring, it is important to remember why you set up a risk management plan – to protect against the unknown.
The good news is that there are various strategies available, and some of them will allow you to capture the majority of any potential higher prices. Determine the level of risk you want to protect against, and discuss your available risk management strategies with a professional who understands all your options and your unique business.
Katie Krupa is the Director of Producer Services with Chicago-based Rice Dairy, a boutique brokerage firm offering guidance, analysis, and execution services on futures, options, spot and forward markets. You can reach Katie at firstname.lastname@example.org.Visit www.ricedairy.com. There is risk of loss trading commodity futures and options. Past results are not indicative of future results.