A Challenging Time For Crop Producers To Manage Input Price Risk
DR. AARON SMITH
KNOXVILLE, TENNESSEE
It’s a challenging time for crop producers to manage input price risk. In-put prices for fertilizer, crop protection (chemicals), machinery, fuel, labor, rent, and insurance are up substantially compared to last year at this time. Additionally, availability and timeliness of delivery are a major concern. Fertilizer prices highlight this dramatic increase in the cost of production. Most common fertilizers have more than doubled compared to last year. As such, producers are seeking strategies to reduce input costs. Two recommendations, as a starting point, are soil sampling (know what you’ve got) and crop selection (know current relative cost and revenue relationships for commodities produced on your farm).
Unfortunately, there is no “silver bullet” to mitigate rising input costs and availability concerns. So, producers will need to be creative in their approach and consider numerous strategies.
There are limited price risk management strategies available to small or medium sized crop producers to manage input price risk (purchase timing, storage, pooling purchases, alternative marketing channels, and alternative nutrient sources, such as manure and poultry litter) and most of these strategies will not result in dramatic reductions in cost in the current environment. Tools to manage input price risk for small or medium size operations are very limited, particularly when compared to the tools available to manage output price risk (futures, options, forward contracts, hedge-to-arrive (HTA’s), minimum price contracts, etc.).
How can producers use output price risk management tools to mitigate some of the input price risk? An example can illustrate the concept.
Assuming a corn yield of 180 bu/acre and a current December 2022 futures price of $5.50, provides projected revenue of $990/acre. Also assume, fertilizer expense of $300/acre. A producer could currently purchase a $4.50 December 2022 put option for 12 cents per bushel on 69 bu/acre (multiply by acres to get a production estimate and adjust for contract size). This would provide a futures price floor on 69 bu/ acre at $4.38 ($4.50-$0.12) or $302/acre, thus protecting the per acre cost of fertilizers. This establishes a futures price floor on 38 percent of estimated production, leaving the upside price potential open. This strategy comes at a cost (12 cent premium on the protected bushels) and does not provide protection against production risk. The concept presented in this example is to offset production costs, when they occur, with output price (or revenue) risk management strategies. Crop insurance is a great risk management tool; however, if you are buying inputs now you have four months of risk with no output price or revenue protection offset. A lot can change in four months!
Producers are encouraged to evaluate strategies and use marketing tools that fit their operations. Since input and output prices are up compared to last year, risk management strategies need to be formulated based on current market risks. Remember doing nothing is a strategy, but it is rarely the optimal strategy. Bottom line – if you are purchasing inputs at high prices, you should consider securing a price (or price floor) on outputs while prices are high.
Corn
Ethanol production for the week ending October 22 was 1.106 million barrels per day, up 10,000 from the previous week. Ethanol stocks were 19.925 million barrels, down 0.155 million compared to last week. Corn net sales reported by exporters for October 15-21, 2021, were down compared to last week with net sales of 35.1 million bushels for the 2021/22 marketing year. Exports for the same period were down 34 percent from last week at 27.1 million bushels. Corn export sales and commitments were 47 percent of the USDA estimated total exports for the 2021/22 marketing year (September 1 to August 31) compared to the previous 5-year average of 38 percent. Nationally, this week’s Crop Progress report estimated corn harvested at 66 percent compared to 52 percent last week, 70 percent last year, and a 5-year average of 53 percent. In Tennessee, corn condition was estimated at 84 percent good- to-excellent and 3 percent poor-to-very poor; and corn harvested at 86 percent compared to 78 percent last week, 90 percent last year, and a 5-year average of 95 percent. Across Tennessee, average corn basis (cash price-nearby futures price) strengthened or remained unchanged at Northwest, West, West-Central, North-Central, and Mississippi River elevators and barge points. Overall, basis for the week ranged from 9 under to 47 under, with an average of 29 under the December futures at elevators and barge points. December 2021 corn futures closed at $5.68, up 30 cents since last Friday. Downside price protection could be obtained by purchasing a $5.70 December 2021 Put Option costing 14 cents establishing a $5.56 futures floor. For the week, December 2021 corn futures traded between $5.35 and $5.69. In Tennessee, new crop cash corn prices at elevators and barge points ranged from $4.93 to $5.90.
Dec/Mar and Dec/May future spreads were 8 and 11 cents. March 2022 corn futures closed at $5.76, up 30 cents since last Friday. May 2022 corn futures closed at $5.79, up 29 cents since last Friday.
Soybeans
Net sales reported by exporters were down compared to last week with net sales of 43.5 million bushels for the 2021/22 marketing year. Exports for the same period were up 9 percent compared to last week at 88.4 million bushels. Soybean export sales and commitments were 54 percent of the USDA estimated total annual exports for the 2021/22 marketing year (September 1 to August 31), compared to the previous 5- year average of 56 percent. Nationally, this week’s Crop Progress report estimated soybeans harvested 73 percent compared to 60 percent last week, 82 percent last year, and a 5-year average of 70 percent.
In Tennessee, soybeans harvested were estimated at 44 percent compared to 31 percent last week, 50 percent last year, and a 5-year average of 60 percent. Across Tennessee, average soybean basis weakened at Northwest and West-Central; and strengthened at West, North Central, and Mississippi River elevators and barge points. Basis ranged from 17 under to 70 under, with an average basis at the end of the week of 34 under the November futures contract. November 2021 soybean futures closed at $12.35, up 15 cents since last Friday. For the week, November 2021 soybean futures traded between $12.16 and $12.57. Nov/ Dec 2021 soybean-to-corn price ratio was 2.17 at the end of the week. In Tennessee, new crop cash soybean prices at elevators and barge points ranged from $11.67 to $12.85.
Nov/Jan and Nov/Mar future spreads were 14 and 24 cents. January 2022 soybean futures closed at $12.49, up 19 cents since last Friday. March 2022 soybean futures closed at $12.59, up 20 cents since last Friday. March 2022 soybean-to-corn price ratio was 2.19 at the end of the week. Downside price protection could be achieved by purchasing a $12.60 November 2022 Put Option which would cost 93 cents and set a $11.67 futures floor.
Cotton
Net sales reported by exporters were down compared to last week with net sales of 360,800 bales for the 2021/22 marketing year and 20,000 for the 2022/23 marketing year. Exports for the same period were down 46 percent compared to last week at 63,400 bales – a marketing year low. Upland cotton export sales were 57 percent of the USDA estimated total annual exports for the 2021/22 marketing year (August 1 to July 31), compared to the previous 5-year average of 58 percent. Delta upland cotton spot price quotes for October 28 were 112.48 cents/lb (41-4-34) and 114.73 cents/lb (31-3-35). Adjusted world price increased 0.57 cents to 93.37 cents.
Nationally, this week’s Crop Progress report estimated cotton condition at 64 percent good-to-excellent and 6 percent poor-to-very poor; cotton bolls opening at 91 percent compared to 86 percent last week, 95 percent last year, and a 5-year average of 92 percent; and cotton harvested at 35 percent compared to 28 percent last week, 41 percent last year, and a 5-year average of 41 percent. In Tennessee, cotton condition was estimated at 65 percent good-to-excellent and 15 percent poor-to-very poor; cotton bolls opening at 89 percent compared to 85 percent last week, 98 percent last year, and a 5-year average of 99 percent; and cotton harvested at 25 percent compared to 15 percent last week, 44 percent last year, and a 5-year average of 57 percent.
December 2021 cotton futures closed at 114.85 cents, up 6.59 cents since last Friday. Downside price protection could be obtained by purchasing a 115 cent December 2021 Put Option costing 3.63 cents establishing a 111.37 cent futures floor. For the week, December 2021 cotton futures traded between 107.66 and 115.15 cents. Dec/Mar and Dec/ May cotton futures spreads were -3.63 cents and -5.18 cents. March 2022 cotton futures closed at 111.22 cents, up 5.03 cents since last Friday. May 2022 cotton futures closed at 109.67 cents, up 4.5 cents since last Friday.
Wheat
Wheat net sales reported by exporters were down compared to last week with net sales of 9.9 million bushels for the 2021/22 marketing year. Exports for the same period were up 16 percent from last week at 6.8 million bushels. Wheat export sales were 54 percent of the USDA estimated total annual exports for the 2021/22 marketing year (June 1 to May 31), compared to the previous 5-year average of 61 percent. December 2021 wheat futures closed at $7.72, up 16 cents since last Friday. December 2021 wheat futures traded between $7.45 and $7.80 this week. December wheat-to-corn price ratio was 1.36. Dec/Mar and Dec/Jul future spreads were 13 and 3 cents. March 2022 wheat futures closed at $7.85, up 18 cents since last Friday. March wheat-to-corn futures price ratio was 1.36.
Nationally, the Crop Progress report estimated winter wheat condition at 46 percent good-to-excellent and 20 percent poor-to-very poor; winter wheat planted at 80 percent compared to 70 percent last week, 84 percent last year, and a 5-year average of 80 percent; and winter wheat emerged at 55 percent compared to 44 percent last week, 60 percent last year, and a 5-year average of 59 percent. In Tennessee, winter wheat condition was estimated at 80 percent good-to-excellent and 2 percent poor-to-very poor; winter wheat planted at 49 percent compared to 37 percent last week, 54 percent last year, and a 5-year average of 49 percent; and winter wheat emerged at 28 percent compared to 21 percent last week, 34 percent last year, and a 5-year average of 23 percent. New crop wheat cash prices at elevators and barge points ranged from $7.24 to $7.64. July 2022 wheat futures closed at $7.75, up 19 since last Friday. Downside price protection could be obtained by purchasing a $7.80 July 2022 Put Option costing 65 cents establishing a $7.15 futures floor. ∆
DR. AARON SMITH: Assistant Professor, Crop Marketing Specialist, University of Tennessee