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BRIAN HOOPS

By Staff | Sep 11, 2009

Harvest is advancing rapidly across the Midwest and the opportunities that were presented in this spring and summer are long past. As producers, the next opportunity that lies ahead is what to do with the newly harvested crop.

Similar to last year, there will be no LDP opportunities, so producers will have to adjust their marketing plan accordingly.

All grain producers will have an opportunity to seal grain under government loan, sell off the combine or store their

Grain, anticipating higher prices. A commodity advisor will influence many producers, their neighbor who still has last year’s crop, or a banker or landlord asking for financial repayment.

Whatever the reason, each individual still must decide to make a marketing decision.

At Midwest Market Solutions, we help producers make individual marketing decisions based on their cash flow needs, tax situation, storage opportunities and marketing goals. The following are basic strategies producers can implement.

1. Sell cash at harvest. This is the simplest marketing strategy as producers sell all inventories as it is harvested. Producers have no downside risk or upside potential but will have an opportunity for government LDP opportunities if available, prior to selling inventory.

2. Seal all production. Advantage is there is no risk if the market declines under the loan rate while ownership of the grain is maintained. Producers can also utilize the government marketing loan authorization program to enhance the profit opportunities and have grain inventory to sell if a demand or supply rally occurs within the nine-month window of the loan program.

The downside of this strategy is prices are well above the loan rate, leaving producers with a lot of downside risk from current price levels until the loan rate is activated.

3. Store your grain and wait for a rally to sell. The big advantage is you have the opportunity to greatly increase potential revenue; however you are at 100 percent downside risk in the market until the loan rate begins as well as paying for the cost of storage and interest on the inventory.

Basis improvement is also a potential benefit. You still have opportunities to capitalize on potential LDP opportunities if they arise.

4. Store your grain and purchase put options to protect the downside risk. The big advantage is you have the opportunity to greatly increase potential revenue; without the downside risk in the market as the put option locks in a price floor. Basis improvement is also a potential benefit and the upside potential is unlimited (less cost of the option). A disadvantage is the cost of the option as well as paying for the cost of storage and interest on the inventory. You still have opportunities to capitalize on potential LDP opportunities if they arise.

5. Place production in storage and hedge/forward contract grain for future delivery. With this strategy, the downside price risk is removed by contracting, however upside potential is unavailable as the price is locked in. Capturing market carry (which is available this year), basis improvement and no downside risk are the benefits of this strategy.

6. Place production in storage and hedge/forward contract grain for future delivery and re-ownership with futures/options.

With this strategy, the downside price risk is removed by contracting and the upside potential is now available as the futures/option re-ownership strategy allows for upside potential. Capturing market carry (which is available this year), basis improvement and no downside risk are the benefits of this strategy.

7. Sell production for cash and replace ownership with futures. This strategy is viable if you do not have any storage and there is little or no market carry. This also contains all the risks and exposures of a futures position, but has very little capital involved compared to physical ownership of the grain. Typical margins will involve 5 percent to 10 percent of the physical commodity.

8. Sell production for cash and replace ownership with call options. This strategy is also viable if you do not have storage and there is little or no market carry. The risk is limited to cost of options that are purchased while the upside potential is unlimited. Very limited capital is involved in this strategy, typically 10 percent to 20 percent of the cash sale.

9. Collect option premiums. Retain ownership of inventory either through physical ownership of the product or by purchasing futures or options; and then selling out of the money call or put options. You are eligible for government LDP or sealing programs if you retain physical ownership of the product and potentially can add value to your inventory by collecting the option premium.

The advantage is the potential for additional revenues; however the financial risk is unlimited on the sale of option and you have the cost of ownership of the product as well as unlimited downside risk if prices move lower.

10. Establish a minimum and maximum price or “a fence.” You maintain physical ownership of the product and then purchase a put and sell a call. By doing this; you have established a minimum price with the long put and a maximum price with the short call. With this strategy you are eligible for government LDP or sealing programs and maintain ownership of inventory.

The advantages are a lower initial investment of the options as well as a minimum price floor. Upside potential is limited to the short call position constitutes the main disadvantage of this strategy.

Brian Hoops is president and senior market analyst of Midwest Market Solutions Inc. Midwest Market Solutions is a full-service commodity brokerage and marketing advisory service, clearing through R.J. O’Brien.

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