By Debbie Carlson
The year began with significant demand uncertainties as the COVID-19 pandemic continued to affect all aspects of farm life, adverse growing conditions in the United States and Brazil impacted crops and a strong US dollar affected exports. Inflation kicked in in the middle of the year, causing input prices to rise dramatically.
But it wasn’t all negative news. Demand was surprisingly strong, and farmers had a record year of grain exports, which helped offset two years of declining shipments. The US Grain Council said US grain exports in all their forms for MY 2020/2021 hit a record 129.5 million metric tonnes, with exports up 28.3%.
Strong demand spurred a recovery, with corn, wheat and soybean prices reaching their highest levels since 2012. Corn and soybean prices peaked in late spring, while wheat prices rose. were just above their peaks at the end of December.
John Georgy, Allendale’s chief financial officer, says prices have risen more than most growers expected amid fear and panic over high demand and poor harvest conditions seen earlier in the year. Once demand started to return after the COVID shutdowns, it came back sharply, eating away at stocks that had built up in previous years.
“When demand came back strong, trade saw stocks of grains and livestock decline rapidly. This created fear of the unknown as to how much supply, nationally and globally, would remain, taking many traders and producers by surprise, ”he said. Volatility brings risks and opportunities, and farmers continue to face some of the challenges faced in 2021 as they prepare for 2022.
Manage the risks
Georgy says the financial situation of farmers has changed dramatically in 2021. After about five years of suffering from low grain prices, crop values have rebounded to nearly 10-year highs.
“You are at those price points where most producers have been fairly profitable. And the question that arises is, how long is it going to last? Will crop production exceed demand or not, ”he said.
Producers are tempted to think that prices will continue to rise and that their crops will be worth later. The question, says Georgy, is how do producers protect themselves if prices don’t stay strong?
“You’ve been on the pitch for a long time, so how do you protect yourself, even if it’s just a short-term swing,” he says.
Georgy says that when he talks to clients about protecting positions, it’s usually at a certain price, by buying puts or selling futures. He also uses short term options to protect positions around days the US Department of Agriculture releases reports, as those sessions are likely to be more volatile than other days. In these cases, it is a matter of managing the client’s margin risk.
Short-term options have several advantages for producers and end users. They allow users to manage risk during a specific window, like harvest reports, as Georgy points out. Other users, such as grain elevators, can integrate these options to offer minimum price contracts at lower cost to producers.
Avoid the worst behaviors
Doug Kirk of Terra Plana Family Farms in central Illinois said that in early 2021 his biggest concern was to “protect us from our worst behaviors,” especially with all the uncertainty that surrounds it.
Some of these past behaviors were not paying attention to their risk management strategy.
For example, he used to buy crop month options to protect risk around a USDA report, especially reports known to be volatile, such as the final report released in or around January. of USDA’s March Prospective Planting Report.
He says that by buying these options he would “be paying months of time value just to absorb any temporary change in prices.” Then we would fail to manage the value of those options by simply holding them until expiration. Hey, we’re busy. Our daily work is in the fields.
This year, he delayed pricing the 2021 crop later than normal to benefit from higher prices. To hedge, Terra Plana Family Farms used short-term options around several key USDA reports.
Since these options have a shorter time value and the premiums are lower than standard grow options, it also gives users the ability to manage risk more accurately and profitably throughout the growing season at a time. reduced cost.
“I like short-term options because I can buy or sell them as part of a plan, but also forget about them if the risk episode they were intended for passes without materializing, as is the most often and most preferably. Still, there is a lot of cash to trade them the way you want, ”he says.
Kirk’s represents a growing understanding of the value of short-term options. Overall, the average daily trading volume for these options increased 170% year-on-year through the end of December. More than 12,000 unique participants traded short-term options in 2021, up 39% year on year.
The largest increase in trade came in June, ahead of the USDA’s June 30 planted acreage report. With increasing volatility leading up to the report, the average daily volume peaked this month at nearly 30,000.
Betsy Leager, of Leager Farms in the Delmarva area of eastern Maryland, said they have started adding short-term options to bring some certainty to their operations. In the past, they benefited from futures or core level locking, but risk management could be more accurate as it’s difficult to predict the size of the crop months in advance.
“My husband’s biggest quote is, ‘you have to have the bushels before you have the price’. It depends a lot on the weather. We can have a bad drought year and we only get 100 bushels an acre versus 250. You have to have the bushels first before you get the price, ”she says.
Leager, who manages the farm’s books, said with rising input costs, she was looking for ways to protect profits made this year when grain prices rose. Compared to futures, short-term options allow more participation at higher prices while protecting against downside risk during the growing season.
“It gives us an idea of where our profit margin will be before the crops are in the ground,” she says.
With the start of a new year, short-term options can provide users with new opportunities to trade high impact new crop contract events, such as major USDA reports and weather forecasts.
Uncertainties are still a part of the grain trade, Georgy says, but the additional uncertainties seen this year are causing some producers to question whether this will be a longer-term risk.
“With the flow of money going into the system, you have this fear of inflation. Producers are seeing inflation firsthand with much of their input costs rising, ”he said.
Leager says higher input costs are definitely on her mind for 2022 and could determine what her ultimate crop mix will be once it’s time to plant. “Everything is going up, but so far grain prices don’t reflect input costs,” she says.
Editor’s Note: The bullet points for this article were chosen by the editors of Seeking Alpha.