Make basis analysis the foundation of pricing decisions
Want to lock in higher profits this fall? Don’t underestimate the value in consistent and comprehensive basis analysis.
“Understanding basis is the easiest way for cash-only marketers and hedgers to improve their performance,” says Chip Flory, Farm Journal Economist and host of “AgriTalk.” “Without accurate basis analysis, you can’t confidently select the right marketing strategy.”
Basis is simply the difference between local cash prices and the futures price at the CME. To start your analysis, collect basis for each of your delivery locations at least once a week.
“Over time, you’ll see clear marketing signals from the basis analysis,” Flory says.
Know the Cause
Basis is influenced by several factors, says Britany Wondercheck, Nebraska farmer and founder of the Farm Girl Next Door, which is an educational resource on grain marketing. Those include:
- Transportation: “If you take your grain to a grain elevator, they still have to transport that via rail barge or truck to an end user or an export location,” she says. “So, they have to take into account that they’re going to have that cost incurred.”
- Profit margins: Grain buyers are in the business of buying grain and make their money through purchasing large quantities of grain.
- Storage costs: Similar to the costs you incur by storing grain on your farm, grain buyers have costs when they take in grain, Wondercheck says.
- Local supply and demand: Basis is inherently localized. For example, if a large weather event decimated yields in your area and surrounding areas, basis levels may strengthen, Wondercheck says. “This is an example of the big difference between futures and cash market influences — basis might improve when there’s a localized issue like this, but it’s unlikely futures prices will be impacted because it’s so small in terms of the national and global market.” she says.
Capture Versus Leave Open
When basis is stronger than normal, your cash-marketing strategy should be to lock in basis but not necessarily price, Flory says. On the flip side, when basis is weaker than normal, your strategy should lock in price but not basis.
“Over time, basis tends to move back to a normal level,” Flory says. “By following this basic marketing strategy, you will improve your grain marketing by adding the change in basis to the final selling price.”
Understand Basis Contracts
A basis contract allows you to set basis, but leave the futures price open to set later, explains Britany Wondercheck, founder of the Farm Girl Next Door. Thus, your cash price on the contract is also not established until you set your futures price (cash price = futures + basis).
“You would use this contract when you feel basis has reached a level you’d like to lock-in, but still want to give yourself time to set the futures price,” she says “You will need to either price futures or ‘roll’ the contract before the futures month expires. Typically, the contract will have a ‘price by’ date or similar field. Keep in mind, there’s usually a fee associated with basis contracts - ask your grain buyer.”
