Cash basis can only be beneficial the farmers when they are hedged properly. The proper hedge involves creating your own cash basis through a synthetic hedge. Many traders and farmers get confused on the cash or basis cost. When you are hedging you are creating your own basis, cash basis can only benefit you.
The cash markets move up and down just like the futures market, however you must sell to realize the higher basis. When you have created a synthetic position you have created a floor on your grains or livestock. If the cash market goes well above the futures a farmer can liquidate at a higher cash price, remove the hedge and take the money. If cash falls significantly below the options or the futures, the farmer can hold for higher prices or use his or her rights to exercise the rights they own at the hedged prices.
Take a look at feeder cattle from the end of April. The futures were collapsing but the cash was worse and actually below futures. At that time the owner of the options or futures could have exercised rights and sold well above the cash market. When you are protected by a proper hedge you have all of the options of what to do. You are never forced out of the market and hold all of the cards.
Basis is important to arbitragers, not hedgers. In the world of trading you can “arb” the market depending on where cash and the futures are trading. The arbitrage trades are known as reversals and conversions and are a professional trader’s trade.
When hedged, your concern is the cost of planting or owning livestock. As they said in the movie Trading Places, “Mr. Valentine has set the price.” Properly hedged farms are not at risk to market downturns and are benefactors of price moves in the correct direction. Proper preparation will create the opportunity for you to lock up profits.
Keep those stops tight!
The views, opinions and positions expressed by the author are theirs alone and do not necessarily reflect the views, opinions or positions of Pro Farmer.
