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New Crop Marketing Strategies for 2013

ISU Extension Farm Business Specialist, Steve Johnson discusses 2013 crop marketing strategies.

-Hello, my name is Dan Looker. I'm the business editor at Successful Farming Magazine. And with me today is Steve Johnson, farm management specialist for Iowa State University Extension. And we're going to be talking about tying together your marketing and your previous decisions on crop insurance on exactly what your possibilities are. And this year, of course, a lot of people are expecting a better crop than last year and probably lower prices, but as is always the case, this time we really have no idea what the weather is really going to do in the summer, Steve. And because of that, we have no idea what the prices are going to do. So, why don't we look at how marketing and strategy interact? -All right. Sounds good. Let's start with revenue protection and the fact that the majority of farmers in the corn belt are using revenue protection RP. -Uh-huh. -It's a farm level product that guarantees bushels. It guarantees your APH times your level of coverage times the hire of the projected price, the February average and December corn futures. -Which we already know. -That's 5.65 corn 12.87 on soybeans. Or the harvest price. That's the October average for December corn and November soybeans. Let's use a couple examples, Dan. Let's take a look at this whole interaction that comes with RP level of coverage. And so, what you're looking at is corn in the left hand column and soybeans in the right hand column. Corn's green and soybeans are gold. And my assumption is 180 bushel acre, actual production history. -Uh-huh. -All right. I don't know that. I'm using that as an example. -Uh-huh. -And I'm using an 80% level of coverage. And again, not all farmers took the same level of coverage, but in this case I'm using that. And I'll just use corn in this example. I can take 180 times level of coverage. 65, 70, 75, 80, or 85 percent level of average. And as I move to higher levels of coverage, I moved to higher revenue guarantees. That's my guarantee. If I don't produce those dollars, then I'm going to collect an indemnity check as long as-- -Right. -I'm using good farming practices. And then take a look, Dan, and as we move to higher levels of coverage, remember there's an interaction that comes with the subsidy for both-- -Right. -optional units. Those were section lines. My cornfields in the section or enterprise units. Those were my cornfields in the county. There's more risk of using enterprise units, but there's a larger percent federal subsidy that comes with that. Now, let's look at that 80% column. I'm gonna use that $814 in acre revenue guarantee. And again, that number came from a 180 bushel acre APH on corn times 80% level of coverage. That's 144 bushel guarantee times the 5.65. -Uh-huh. -That rounds off to 814. Let's take a look at a marketing example. Dan, what I'm gonna do here is I'm gonna play a game. Let's pretend in 2013, this particular farmer that has a 130 bushel acre APH at the 80% level of coverage sells 100 bushel an acre and they commit those bushels to delivery. They're selling their insurance bushels and they're gonna average $6 bushel. Now, I'm not forecasting price. I'm just saying this is the example. So, in each of these columns, there's $600 that that farmer is going to receive from the bushels that they're committing to delivery. -Right. Now, what I wanna do is I wanna look inside each of these columns where that procedure, again, [unk] are used in ADH contract. Any committed 100 bushel an acre times $600 of bushel and then each of these columns have a little different scenario. Let's take a look at column 1. 100 bushel an acre is what they sold. And if we could, the indemnity payment should he only produce 100 bushel an acre- -Right. -is $364. Now, some people would say, how did you calculate that? -That's at a lower price. -That's right. Remember, the $814 was my guarantee from, but I only produced 100 bushel and my harvest price as 450. That's what I call my revenue to count. So, I have to take 814-dollar guarantee minus my revenue to count of $450. That's where I come up with my 364-dollar indemnity payment. -Uh-huh. -So, if the producers sold more bushels than 100, all right, remember they were guaranteed 144. He's gonna receive an indemnity check that in essence is gonna be reflecting roughly that 5.65 because my revenue guarantee use the higher of the projected price, 5.65, or in this first column the harvest price of 450. -This examples is very much like a put option. -Yeah. -And referring to that previous slide, which showed the various levels of subsidy, all of those are a better deal than just going out and buying the put option. -I would agree. -It's a government subsidized put option. -On the crop insurance bushels. -Right. Exactly. -So, you got a guarantee on your crop insurance bushels. Now, let's take a look at column 2. This is interesting one, all right. This farmer produced 100 bushel an acre, committed to delivering 100 bushel an acre, but the harvest price was 750 then indemnity payments are actually gonna be lower in this example than it would have been with the lower harvest price. -Uh-huh. -Why would this farmer received only $330 an acre as an indemnity payment? Well, that's because the revenue guarantee is no longer $814. The revenue guarantee is $1,080. It's the 144 bushel guarantee, but I'm gonna use this 150 bushel, the higher harvest price. -Right. -But I still have to subtract the revenue at account, so I have to multiply my 100 bushel an acre that I produced times the 750 harvest price. The difference between 1,080 and 750 dollars an acre revenue at account is $330 an acre. So, crop insurance works, revenue protection, preharvest sales whether we have low yields, 100 bushel an acre and I committed to delivering 100 bushel an acre and whether we have low harvest price 450 in the left hand column or 750 in the right hand column. Now ,let's hope we don't have to collect crop insurance. -Right. -Let's take a look at column 3. I committed 100 bushel an acre, but my harvest price is 450. I'm gonna subtract 50 cents a bushel. That's roughly a basis across the corn belt at harvest. So, I've got an extra 100 bushels an acre that I'm not committing to deliver. Yeah, I still got to sell. But those bushels are only worth roughly $4 dollars a bushel. I'm still gonna have a gross of $1,000, but I feel pretty good that I at least pre-harvest sold 100 bushel an acre. Maybe I have more room for storage. Maybe I've got some cash flow that I can meet. And then hopefully the right hand column occurs. I produce 200 bushels an acre and that very right hand column and the harvest price goes to 750. I get to multiply that 100 bushel, unpriced bushels, times 750 minus a 50-cent basis. And I have a total gross crop revenue of 1,300. The question that I have is, if you drew 200 bushels, do you think the harvest price is gonna be $7.50 a bushel? -That doesn't happen very often. -No. So, a part of a risk management strategy is selling some bushels. In this case, I'm selling about 70% of my guaranteed bushels or about 100 bushel an acre. And I use that as an example and I challenge the viewers to understand how crop insurance works especially revenue protection and that ability to take RP and guarantee revenue, 814 in our example. And if the harvest price goes up, I get a higher revenue guarantee, but I still have to subtract my revenue at account, which in this case is my 100 bushel times the harvest price of 450 or the harvest price of 750. Now then you indicated early we don't know what the weather is going to be-- -Right. -So, we don't know what prices are going to do. I like to take another look at crop insurance. Let's look at this next example. Let's look at the last 12 years, 2001 through 2012. And the black lines is what I call the projected price. It's the February average for December corn futures every year going back to 2001. And I overlay it with a gold line. And that's the harvest price. Remember, if you took revenue protection, you'll receive the higher of the two. -Right. -And so, you notice that there's not a lot of difference between those two. -So, the last few years' revenue protection is obviously the best choice. -Yeah. Look at the 10, 11, 12 where that harvest price has really paid off. You get the higher revenue guarantee. Let's overlay one more set of numbers, Dan. From March 1st until September 30th, every year, I went in and looked at December corn futures, the high. That's the high tech of December corn futures . And I think what you notice is a couple of things. Number one, you notice those high prices, 799 from 2008, 779 from 2011. -It's extremely unusual for those harvest prices to be the same as December high. -Well, those are actually the high futures prices-- -Correct. -and you're right, but notice that pre-harvest market sales of insurance bushels would have really benefited-- -Right. -in those 3 years-- -Right. -with those high prices. And so, about 8 out of 12 years. The high tech of December corn futures are higher than either the projected price, the February average, or the harvest price, the October average. I think having a marketing plan and at least selling some bushels in the spring and summer months, kind of that March 1st until the end of August, because those 11 and 12 highs were actually in August. That 8 high was actually in June. I'm not saying that I know where the high occurs, but selling crop insurance bushels, revenue protection, taking your APH times your level of coverage and then understanding that ability to sell especially after March 1st and especially ones we know the projected price. We know that price for 2013. It's 5.65 a bushel for corn. And it's 12.87 a bushel for soybean. Let's look at one more issue that I think plays out that I think makes it extremely difficult for producers to pull the trigger on new crop sales. I split December corn futures weekly. And these are the average prices. In this case, the first line up is looking off that left hand side of the column. It's the average December corn futures price beginning January 1st til the end of September. And noticed the market tends to rally usually in February, but for sure by March and April, but notice the highs tend to occur by June and then a steep drop. -That used to being considered a normal seasonal price pattern. -Our 20- and 30-year data looks a lot like that. -Right. -Now, let's overlay in this with a line that looks at the last 5 years. And now, the prices are coming the right hand side of the chart. And again, one more build would indicate that that gold line in front of you is the 2008 through 2012 average prices. What appears to have happen since 2008 and in especially those 3 years that we saw earlier, 8, 11, and 12, the highs are coming later. They are not necessarily following those spring months of March,-- -Uh-huh. -April, May, June. The extreme highs are actually coming a little later. Now, I'm not saying I can predict that for 13, but I think with these tight ending [unk], any sort of weather problem, we get this kind of effect, this bump up in futures prices and again some other things have to happen. We have to bring the commodity, noncommercial index funds back into the market, but what I contend is is that if a producer wants to sell their insurance bushels primarily in this March, April, May, June timeframe and then be in a position to maybe sell additional insurance bushels in June, July, August or by put options, and again, we've got some new tools, those short dated put options are now available-- -UH-huh. Uh-huh. -so a producer wouldn't have to pay as much time value. So, I think there's a place for some pre-harvest marketing using crop insurance revenue protection. -And if you look at that chart, whether the yellow line is the new normal or not, it appears that there will be some good opportunities ahead probably before June or July. -Yeah. And I wouldn't want to place all my bets on-- -Right. Right. -July and August. -I mean-- -Absolutely. -Determine it right now of roughly how many bushels do you think you are going to produce and then look at a pre-harvest marketing strategy of insurance bushels or what I call delivery bushels. -Let's conclude this video today by looking at some strategies for marketing year 2013 crop. Number one, I would expect new crop futures especially in the spring to remain relatively high. I'm not saying that we're going back to the August 12 highs of 665 a bushel for December 13 corn or 14.09 and a half per bushels for November 13 beans, but because we still have to produce the crop. And remember, the U.S. is #1 in corn production around the world and most of the corn is produced in the northern hemisphere. So, I would consider forward contracts or HTA. The only difference or what I call delivery bushels, committing bushels to delivery, but I wanna use my guaranteed insurance bushels. And by guaranteed, I'm talking about use of revenue protection-- -Uh-huh. -and the guaranteed bushels are my APH times the level of coverage. -Uh-huh. -But I'd try to sales when futures prices are above the projected price. That's at 5.65 a bushel for corn and 12.87 a bushel for soybeans and then look at buying put options or nondelivery. Bushels that you don't wanna commit to delivery, you can still protect price. So, you're not spending money on all put options on all bushels. You're using crop insurance premiums. If you would, crop insurance revenue protection kind of acts like a put option on your guaranteed bushels. -Right. And then you can use put options for the remaining-- -Sure. -as you see that opportunity. And I don't think I'd be that aggressive yet on buying those put options. Again, if the prices rally like we've seen the seasonal prices, we're gonna be able to buy higher strike prices and less time value. I'd probably concentrate mostly on that May, June, July timeframe for getting those puts bought. Hopefully, the market rallies and then I'm paying less time value especially with those short dated options. -Uh-huh. -And then my last point is I'm a big proponent of selling enough bushels to meet next fall and next winter's cash flow needs especially if you're managing risk. You've got that. You've got cash flow. You've got expenses whether it be operating money, whether it be machinery and equipment payments, land payments, or even cash rent. You know, consider selling enough of both corn and soybeans, but primarily in the spring and summer months or that same period of time that we know our crop insurance projected price. So, I would use March, April, May, June as their traditional seasonal. And then if you've got more bushels, hopefully we get some sort of a rally that continues into summer months. Here's no guarantee. I would encourage those viewers to avoid long-term commercial storage especially corn because if you store corn commercially, you have drying and shrink and a fixed cost of storage. Plus, you receive the basis of wherever those bushels are stored. -Right. -If there's a crop I'd store for a couple months, it'd probably be soybeans and then I'd probably use the January contract, January HTA, and then wait 'til after harvest to set the basis. And then lastly, I think that if you were growing crop in 13 and you can make a September delivery especially in the corn belt, I think there's gonna be an attractive basis. But we might have to lock that basis in likely in June or July before we ever know the size of the crop. -Uh-huh. -So, I can tell here in Iowa that basis for first half September is probably 40 to 50 cents bushel better than it is for first half October. So, I would suggest producers use an HTA contract and then consider locking that basis in, but I'd probably wait until the late spring to lock the basis in on those HTA contracts. -Sounds good, Steve. Good food for thought. -Great. -Thanks very much. -Let's think about using crop insurance in a different way as a part of a pre-harvest marketing plan in 2013. -Great. Thanks.