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Marketing wheat...if you have a crop

01/21/2013 @ 1:06pm

It's been a painful winter for plains wheat farmers as they watch prices sink and their crop sputter in the drought. Thoughts about how to capture prices for a crop that may -- or may not -- make it to harvest have caused farmers in the drought-stricken central and southern plains even more agony.

Kim Anderson, extension agricultural economist at Oklahoma State University, says worrying about prices is wasted energy. While wheat futures on the Kansas City Board of Trade have slid lower through most of the winter due to selling from index funds, Anderson reminds producers that prices still are historically strong.   

"The average price of wheat, if you go back the past four or five years, is around $6.50. And right now you can forward contract wheat for around $7.80 in Oklahoma and Texas," says Anderson. "Historically speaking, we still have a relatively high price."

Kansas City hard red winter wheat futures are also trading at a healthy premium to soft red winter wheat futures in Chicago, adds Anderson. That premium, he says, reflects the intense drought gripping the HRW wheat belt where USDA recently declared 351 counties in Kansas, Colorado, Oklahoma and Texas disaster areas.

With so much crop uncertainty, Anderson recommends selling wheat in the cash market shortly after harvest with no bushel commitment to futures or forward contracts. That marketing strategy lowers risk and is also historically more profitable.  

"In the Oklahoma-Texas area and probably western Kansas, the single best time to sell wheat has been at harvest," Anderson explains. "You're saving on storage costs, and prices are normally higher."

But if farmers are uncomfortable parting with their wheat so soon and missing potential rallies later in the season, Anderson advises selling wheat in three installments before January 1 -- a third at harvest, a third in September-October, and a third in November or early December. The cardinal sin for producers in Oklahoma, Texas and Kansas, he reminds farmers, is storing wheat too long.

But in a drought year where production falls short, crop insurance might be the only revenue protection the farmer needs, adds Dan O'Brien, extension agricultural economist at Kansas State University.

"Crop insurance here is our ultimate dollar backstop," explains O’Brien. "Implicitly within the crop revenue coverage is a very, very cheap put option. Say you have a $6 strike price for wheat. If you took out a 75% APH (Average Production History) for your crop yield coverage and you spread that back out over all your bushels including the remaining 25%, you essentially end up with a $4.50 put option that cost you about one or two cents a bushel."

With an at-the-money put for wheat costing more than 50 cents/bushel at the Chicago Board of Trade, O'Brien says crop insurance coverage is an extremely cost effective risk management strategy for farmers with highly uncertain crop potential. Any money spent on risk coverage outside of that, he says, can be used to buy put options that set a price floor without locking the farmer into a risky bushel commitment or at a price level markedly higher than the price coverage they implicitly have within their crop revenue-based insurance.

If a producer still is worried about lower prices, adds Anderson, then forward contract 10-15% of your expected production.

"Over the scheme of things, it's miniscule. But it allows you to sleep at night," Anderson says. "If you lie awake losing sleep, you're going to do something stupid during the day relative to production or financial management that’s going to cost you a lot more than a little bit of price ever did."


Editor's Note: Tanner Ehmke is a Lane County, Kansas, wheat farmer, industry analyst and freelance contributor for Successful Farming magazine and Agriculture.com.

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