Marketing without the CWB

[reddd]

If the CWB is supposed to protect us from risk......What protects us from the CWB ?

Dwayne Leslie
http://www.farmauctionguide.com

[Steve]

Chaffmeister


I think we both agree that the farmer has some marketing choice and will sell if the price is right, so why are you saying that there is more risk in GPO’s than waiting for the market price to hit the same target and then sell.

I did both, but prefer the GPO, because you don’t miss your target price when there is a short rally in the market; also as you know farmers have a tendency to change their mind in a rising market and end up selling in a panic downward slide below the initial target.

I understand the bases contracts and have used them, but I still don’t like to have un-priced grain committed to a grain buyer.

GPO is also a commitment and can be easily canceled with no cost to the producer, but not so for a bases contract.

I had a bases contract for canola with Agricore and on the deliver day they offered me $7.00 a bushel and UGG ‘s price was $7.25 a bushel, so there goes my good deal and the bad part was I had to haul right by UGG to get to Agricore.
In many cases the grain buyers will match the price without the bases contract for good customers.

[chaffmeister]

Steve:
I am not saying that there is more risk in GPO’s than waiting for the market price. I appreciate your reasons for liking GPO’s – I just think that you need to be aware of what the grain company can do with that contract that benefits the company at your expense. I hope my example was clear – if not, please let me know.

When you refer to a basis contract and un-priced grain, do you lock in a basis or is it just un-priced grain (on free storage – we used to call it 90-day deferred pricing). There is a huge difference. Both contracts tie you to one company but un-priced grain (with no basis locked in), in my view, should NEVER be used.

With a basis contract you have locked in a basis only - the contract is to be priced later at “the market”. Pricing could take place on the delivery day. I’m sure you’re aware that basis levels fluctuate. (Why else would you bother locking in your basis with a contract?) The fact that your contract may be lower on delivery day than the street price should not be a surprise, nor a great concern, nor a reason to dislike basis contracts in general. Your contract price could be lower for a couple of reasons (1) the basis on the contract was not as good as the spot basis and/or (2) the contract was priced when the market was lower than on delivery day. But you made those decisions (basis and pricing) freely and based on sound marketing concepts (perhaps even a GPO to price the contract). By the same factors, your price could be higher than the spot price on delivery day.

What about your GPO’s – did you ever get a pricing on a GPO that was lower than the street price by the time you delivered it?

Deferred pricing contracts were developed because farmers wanted to deliver grain without pricing it and the CGC allowed this to happen with the limitation that the grain had to be priced within 90 days; in the mean time it would not accrue any storage. So grain would be delivered, sold to the grain company for a nominal $$ amount – AND NO PRICE ATTACHED, NOT EVEN A BASIS. What this did is give the grain to the grain company with the trust that the price later on would be fair market value. Here’s the problem with this. Price tends to be based on supply and demand – the less available, the higher the price. The power the farmer has in the market is expressed through holding his grain off the market (over the short term anyway – less than a crop year). When farmers deliver grain off the combine and sell on a deferred pricing contract, they have just satisfied the demand. There is no incentive for the market to bid the price higher to get the grain - it already has it.

Most of this grain was left to be priced on the last day – 90 days after delivery. Every grain company has computer reports that advise the traders when this grain is coming due and will need to be priced. When the grain is to be priced (futures sold) the companies will know exactly how much ahead of time. On top of that, these contracts are often priced at the current street price. There is no incentive to provide a “good” street price. What developed was a two-price system on canola – a street price (for deferred pricing contracts) and a more aggressive bid for new deliveries (with a better basis).

Anybody still selling on these deferred pricing contracts?

[Steve]

Chaffmeister

Your statement “ what about GPO’s –did you ever get a pricing on a GPO that was lower than the street price by the time you delivered”.

Well of course I have, there is no way on earth you can sell grain and receive the top price of the year. I think you are trying to tell me the same thing happened in my basis contract, but it is not, because I can cancel the GPO with no cost and sell to the higher street price offered by another grain buyer. That is if my GPO wasn’t picked up yet, but if it was then I received my target price and I am happy.

I had one or two deferred 90 day pricing contracts and never again, because it is good for the grain buyers and not so good for the producer, as you pointed out.

I always lock in the basis on a basis contract “ that’s what a basis contract is all about,” but the grain stays un-priced until you sell.

If I lock in a futures price for my grain on a month of my choice, I will received the agreed price on delivery, and I don’t care about the basis, because the grain buyers already applied the basis to their offered price.

[bmj182]

Using a basis contract doesn't mean
that your grain has to sell unpriced,
simply sell futures for your delivery
date, and your price is set! Basis
risk can be very significant, this
alows you some flexibility, if the
futures price starts going against you
buy back your position and then
reprice at the level you want.

[Steve]

Using a simple marketing system will help you stay farming. Sell grain at the price that is needed to stay in business, and don’t buy it back just to gamble.

[TOM4CWB]

Steve!

You are absolutely right!

No one ever went broke making a profit!

As the old saying goes... the hogs get slaughtered!

[bmj182]

Buying back isn't gambling. If you
like paying margin calls by all means
let your contract ride. There seems
to be quite a lot of different notions
as to what the futures market actually
does, and doesn't do, the effects of
basis etc. Agricultural Marketing
Management is a good CD series
that will get you started, available
from AIMS.

[TOM4CWB]

BMJ;

There is a fine line between speculating and risk management.

In a marketing course I took, over 80% of farmers end up speculating... and this dramatically increases the chances of actually loosing money from futures transactions.

We must be absolutely sure that we ARE risk mitigating through our futures transactions... if we create risk... especially potential unfunded liabilities... SPECULATION is the result.

BE Careful is all I am saying.

[bmj182]

I was just commenting that a lot of
the information presented above
was not really acurate, there seems
to be some misconceptions about
basis, GPO's, the futures market in
general. Buying back your position
is not speculating, if the market is
going against you, those margin
calls really hurt if you don't! Anyway,
one thing I was wondering, please
comment on what your ideas are
concerning post CWB Canada ie: do
you think a lot more grain companies
will be created, increasing the
competition for our grain? Do you
think the pulse industry is a good
indicator of what would happen if the
CWB disappeared?

[parsley]

bmj182,

Interesting questions! One thing I'd like to mention... The CWB has a profound effect upon corporations doing business in Canada because all elevators, mills, etc. are designated as "works for the general advantage of Canada".

If I was a corporation, I would not build structures that are not movable because my property rights to my assets would be overuled with the existing legislation.

Louis Dreyfus, for example, can dismantle and export their assets overnight. It has been farmers that have traditionally sunk money into concrete and wood assets.

One of the things I think would change if the CWB Act was scrapped and property rights were re-enforced in our constitution, would be that corporations
would recognize a friendlier climate for investment. Right now, are we nearing the same investment climate as Cuba has.

Parsley

[chaffmeister]

bmj:

Discussing a topic as complex as grain merchandising over the internet by typing into a little box is difficult - the biggest problem is not being able to really be clear about what what you are saying!

Now, let's talk about buying back your position and whether it's speculating or not. If you entered a futures position as a hedge, and you subsequently remove it, you are now "unhedged". Unhedged is the same as "unprotected". And many consider being unprotected as speculating.

When I traded for a major company, it was very clear - ANY flat price exposure was considered a spec position. So if I was long 10,000 tonnes of feed barley without an offsetting futures position, my spec position was "long 10,000 tonnes".

I have taught and advised clients on trading (cash, futures, options) for many years. When I talk to farmers about hedging, I always make it clear that anytime a farmer has grain in the bin without a futures hedge, he is speculating (he is at risk that the price of the grain can go against him).

But when a guy has grain still growing in the field, it is never really clear whether he has MORE or LESS risk with a futures position. Lifting a futures hedge of your canola in the field may in fact reduce your risk if it appears you may be experiencing production problems and the market is generally bullish. (Lifting a hedge this summer would have been a wise decision indeed!)

The most important thing in risk management is to really understand what you are doing and know what the implications are - the devil's in the details. And as you said, there are a lot of misconceptions floating around about futures, hedging, basis, etc.