My wife and I were blessed with our fourth daughter last July. The fact that she is the fourth girl is by itself the source of much advice from customers, friends and family. Regardless, she adds nicely to our family. As she grows and develops, her personality is becoming more distinguished.
She is very particular about what she wants and when she wants it. For example, if you fail to feed her at the appropriate pace, she will stick her fingers in her mouth and block your efforts.
As parents, we have discovered a solution to this mealtime woe. If you sing her a song, she maintains a level of contentment that allows you to move through a meal without obstructions.
Her two favorites are “Old McDonald” and “The Wheels on the Bus.” All parents have had those moments when child-rearing has shed light on other moments in your life. For me it was mealtime.
While singing, I was reminded of the very crazy markets I had been working through with my clients. As “the wheels on the bus go round and round,” so do the cycles of the markets.
We have talked at length about the three-year cycle of milk prices and the inevitable risk that 2012 presented. There is no need to beat a dead horse, so I will not. As “the people on the bus go up and down,” so do markets and the emotions attached to the people involved in them.
Managing these emotions and the biases and actions attached to them has been one of the greatest challenges for dairymen in 2012 … and likely will provide one of the greatest takeaways for students of the marketing/risk management process.
As 2011 unveiled opportunities for 2012, very few were excited about what the market had to offer. Seventeen-dollar milk, for many, did not provide the profit opportunities that most were hopeful of. In some cases, it did not present an opportunity for a profit at all.
Corn prices remained north of $6 per bushel and soybean meal was hovering around $320 per ton. Milk- over-feed costs at the farm level did not present the quality of returns that were presented in 2011.
However, that did not change the fact that cow numbers were growing, milk receipts were escalating and product inventories were building.
All of these trends pointed toward looming downside risk in the market for 2012. Some began to dip their toe in the proverbial waters of risk management. Others, when viewing their margin opportunities, dove right in.
Of course, markets had a way of keeping people guessing. Milk prices found a way to move higher early in the year and had many second-guessing their efforts.
Will your efforts to manage margin perform as well as the market would have on its own? Was this educated choice to create predictability the best for my business?
These are the moments when discipline becomes priceless. Now as soybean meal has breached $400 per ton and corn has hung in the $6-plus territory while milk futures prices tested $14 per hundredweight (cwt) on a Class III basis, many are very pleased that they stuck with that choice.
Others are left asking the question: “What do I do now?”
Obviously, margins are not spectacular for the un-hedged individual. Lower milk prices, higher protein prices and historically elevated corn prices squeeze the bottom line incredibly.
Will the market offer us an opportunity for a (growing) profit? As much as you and I hope, there is no guarantee for such returns. We need not look any farther than 2009 to recognize that the world market does not concern itself with making sure each month is a profitable one.
The good news is that the market is offering (at the time of this writing) a better opportunity in the second half of the year ($15.74 Class III futures average) than what was received or remaining for the first half of the year ($15.68).
This begs the question: “What should I do about this?“ This is where we need to be careful. I mentioned earlier that managing our emotions and perspectives will be one of 2012’s greatest lessons.
It is very easy to react out of panic or kick into survival mode without weighing all of the information. We talked about booking your needs for soybean meal last fall.
Given the more-than-$150-per-ton or 155 percent hike in prices since last fall’s low, now is not the time to become aggressive buying soybean meal. A more passive approach is in order. This is a place to use call option strategies to defend further price elevations.
With corn likely to be in heavy supply come harvest, now is not the time to be getting super-excited about booking all of your corn needs either. Here again a call option strategy is more appropriate.
While milk prices are where they are at, multiple approaches are acceptable. You may sell milk futures or contract with your buyer. However, act prudently if this is your choice.
Too many times I have heard dairymen recount stories of how they contracted milk after a fallout in price. They justified their efforts as a means of defending against what just happened.
Almost invariably, that is when the market began its next move higher. If you should choose this avenue at current price levels, buying calls would be a prudent follow-up to that sale in order to allow any surprise upside movement to reward you.
You may also choose to purchase put options. This strategy provides you coverage from lower or falling markets while allowing you the flexibility to take advantage of potential price hikes.
Other alternatives are available, but you should consult your risk management adviser to help you develop a specific plan tailored to your margin situation. If you do not have a plan – or an adviser – you are welcome to contact me for assistance.
It is most essential for you to work through the process of identifying risk, your tolerance for it and your plan to overcome it. Bottom line – manage your emotions with a plan! As you observe the motions of “the bus,” please don’t make hasty and irrational decisions that end up throwing yourself under the bus. PD
UPDATE: Since the publication of this article, Mike North has left First Capitol Ag and is now the president of Commodity Risk Management Group. Contact him by email .
First Capitol Ag