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9 tips for marketing in drought year

Darrell Mark, South Dakota State University adjunct professor of economics, offers these nine tips for marketing more effectively in a drought year:

Don’t think prices will rise forever. When prices peak, they are apt to drop “rather quickly.” The current daily price limit in the CME Group corn futures contract is 40 cents per bushel, which expands to 60 cents per bushel on a day following a limit close lower (or higher). So, conceivably, the corn market could drop by $1 per bushel in two trading days. And, the trading days come quicker than calendar days now that the market trades 21 hours per day.

Be ready to pay if you can’t deliver grain or cattle to fill contracts. “Be certain to read and understand the non-delivery clauses in any cash forward contract. Almost certainly, it will cost money to settle non-performance of forward contracts, often by the amount of futures price changes from the time the forward contract was initiated until the delivery date,” he says. “Some grain merchants may also consider rolling the contracts into the 2013 crop year, but again, it may come at a cost.” Revenue protection crop insurance can help offset some of these costs. Even ranchers who are forward contracting their calves for fall delivery need to take precautions as they may need to move delivery dates up or decrease delivery weights.

Buying options may be better than buying futures. While options are rather expensive due to the high volatility in the underlying futures markets, put options can be used effectively to create floor selling prices, and calls can create ceiling purchase prices. “Options offer the advantage of not requiring delivery of the physical product, unlike most cash forward contracts. Additionally, they enable the hedger to benefit from favorable price moves and do not require margining an unfavorable price move in the futures market (beyond the total option premium paid), provided that the hedger has only purchased options (not sold, or wrote, puts or calls),” Mark says. Options may also be easier than futures contracts when managing the risk of futures commission merchant defaults.

Don’t leave too much money in a hedging account. “After the mismanagement of customer hedging funds at two large FCMs this last year, it would seem that maintaining as small of balances in the hedging account as possible would help protect a hedger’s money,” Mark says.

Be careful using stop-loss orders. With large daily price changes and high volatility, it is increasingly likely that stop loss orders could be triggered and the futures hedge is offset, even when the hedger didn’t want the hedge lifted because prices may quickly revert.

Understand crop insurance reporting requirements. Be certain to pay premiums on time and talk to your crop insurance agent before cutting, chopping, haying or abandoning an insured crop. For harvested grain, be certain to understand and follow recordkeeping requirements.

Manage 2013 margins. Given high grain prices for 2013, making small sales of insured bushels at this point might be a good marketing decision. However, most of the input costs for the 2013 crop are not yet known. “Should input costs spike higher, expected profit margins at current 2013 price levels may turn out much lower than expected. This occurred a few years ago when prices reached then all-time highs. Margin management will likely be most effective when grain sales are timed with input purchases in dollar-for-dollar amounts,” Mark advises.

Recognize that doing nothing is a decision. “It’s easy to suffer from ‘analysis paralysis’ and not make decisions or take actions. … The challenges of this year’s drought could cause some to avoid making decisions regarding grain sales or herd liquidation. Often, the advantage goes to the producers that make the difficult decisions first — before production conditions worsen further or prices become more unfavorable. Still, sometimes the best decision is to wait for a certain time or event to occur. Just be sure that, too, is a conscious management decision.”

Implement your plan. It is important to actually implement the plan once it is developed. “Be certain to communicate openly with family members, employees, lenders, brokers and other members of the management team,” Mark says.

Source: SDSU

This article published in the September, 2012 edition of DAKOTA FARMER.

All rights reserved. Copyright Farm Progress Cos. 2012.