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'Experts' leave farmers holding the bag - Roy Smith

Again last week the grain markets were pummeled by outside
financial markets that have almost nothing to do with agriculture. J.P. Morgan
Chase, a large financial house, was apparently caught on the wrong side of a
speculative trade and sustained losses amounting to roughly two billion
dollars. I use the term “roughly” because it seems that no one is sure exactly
how big the pain is. The individual who was supposedly in charge of that move
was fired. She is said to have had 30 years of trading experience.

The
connection to agriculture came from the firm liquidating profitable long
positions in soybean futures to use the trading profits from that commodity to
offset losses in the other markets. This subsequently caused almost limit-down
prices in the soybean pit from which the prices have not yet recovered. My
question is why a bank was taking speculative positions in markets in the first
place? Also, why did they have a position large enough to result in two billion
dollars of losses?

Sometimes
commodity markets look like profit centers to those unfamiliar with know fast
the risk in such markets can turn to losses for the trader, whether novice or
experienced. It would seem that anyone with 30 years of experience in trading
would know enough to stay out of the market or at least limit the size of
position to what the firm could safely handle. 
If financial losses were limited to stock holders of the bank the losses
might be tolerable. However, in this case the hurt came all the way back to
soybean farmers who have unsold soybeans on their farms or in their fields.

My thoughts
go all the way back to the stock market crash of October 1987. In that instance
an individual lost 22 million dollars from selling put options on S & P
futures. That loss caused huge losses in stock prices for an extended period of
time. When the dust settled the person at fault said that he never realized
that selling options was so risky! So much for expert opinions.

HOLDING THE BAG

More
recently the MF Global fiasco has left farmers, including me, and grain
elevators holding the bag for millions of dollars that they thought were safely
locked away in segregated accounts. All the time I thought that my position in
the futures market was to guarantee a profitable price for my future grain
sales. Silly me! I am still waiting for my check on that deal.

Most
farmers hate the thought of big government having a role in regulating our
activities. However, in my opinion, having comprehensive rules governing
financial institutions and strictly enforcing them has to play a major part in
preventing future disasters. Whether the problem is that the experts are
unethical or just stupid is beyond my level of understanding.

Meanwhile
management strategies to prevent losses to individual farmers are difficult to
come by. Evaluating your grain buyer’s financial position is a good idea if the
statements are available. The old strategy of selling in increments and
settling for each increment as it is delivered is always a good idea. Forward
pricing some with cash forward contracts, storing some at home and using the
futures for some spreads the risk of losing it all on one bad deal.

 

It would
seem that such diligence should not be necessary. However, with the amount of
dollars at risk with today’s prices, anything you can do to reduce the third-party risk is a step toward your farm having staying power.

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