Capitalizing on the basis

There is a lot of unsold corn in farmers hands. Some estimates indicate only 40% to 45% of the 2016 crop is sold. With 16% carryout, there is plenty of supply available for the remaining seven marketing months. End users aren’t desperate for corn.

Despite the abundant corn supply I think corn futures have upside potential long-term. This may be caused by funds buying commodities as a hedge against inflation, reduced 2017 corn acres or a summer drought scare. If this happens, I would expect basis values to drift lower.

Basis

Due to heavy supply, basis has been disappointing lately, running lower than normal for this time frame.

  • Beans 40 to 50 cents below normal
  • Wheat 40 to 50 cents below normal
  • Corn 20 cents below normal.

In some ways the corn market is acting similar to 20 years ago. Ultimately basis fell apart as futures increased back then. It’s unclear if basis traders or farmers with HTAs will get burned in the same way this year.

Following are some uncertainties that may impact basis in the short-term and long-term.

  • Mexico exports — The future of corn exports to Mexico, NAFTA and Trump are uncertain. While probably a long shot, if exports to Mexico are shutdown it would create not only a logistical nightmare for corn and basis levels.
  • Japan exports — China is trying to reduce their corn supply by selling to Japan, a traditional U.S. corn buyer. This may reduce export demand from the U.S. but not change world stocks.
  • Normal South American harvest — South American harvests will likely be normal. This may hurt U.S. export demand and cause basis levels to drop at shuttle loading facilities
  • Feed demand — Feed demand may decrease due to warmer spring weather and/or wheat is being used more and more in feed rations.
  • Ethanol — Reduced ethanol profits may cause plant slowdowns and decrease basis in certain areas.

In an effort to reduce potential basis risk for my farm, I set basis for much of my stored corn.

  • 10% — 2015 production stored through winter for March farm pick up: -.44 March futures
  • 50% — 2016 production July farm pick up: -.46 July Futures

Watching basis for the last three months, this was:

  • 10 cents below the best bid I could have received for this year.
  • 7 cents below basis the first week of harvest
  • 5 cents above the lowest bid I saw the fourth week of harvest.

 

So you missed out on 10 cents potentially?

Yes and no. By waiting until now, I collected 10 cents in market carry rolling Dec futures to Mar. So, this offset the missed opportunity I could have received if I knew at the time basis was at its highest right before harvest (which no one knew and is usually not the case).

In most years waiting until well after harvest is complete and even into the spring to set basis is more profitable. While I use trends to help make decisions in my marketing plan on likely outcomes, sometimes the less likely result occurs.

In the end, I didn’t quite cover my yearly bin payment with basis and market carry premium. However, I have more than made up for it in previous years, so overall I’m ahead.

 

Why the 2015 production?

I had enough home storage last year, so I held some corn hoping for better basis this spring compared to last July. Unfortunately, March basis was 12 cents lower than last summer, but I picked up 30 cents of market carry for holding my corn until now, or a net 18-cent premium. Since I can blend grain as I fill and unload bins, the loss in shrink was minimal — less than 2 cents.

 

Why sell most of your corn in July if basis was 2 cents lower than March?

I always need to core a little corn in late winter to keep the crop in good condition through summer. Also, the market is paying 14 cents of market carry to hold my grain until summer. So, while I lost 2 cents in basis, I net 12 cents for the trade. This is another illustration why farmers need to consider basis and market carry separately in the marketing strategy. In doing so, it allows farmer to take advantage of all potential premiums and opportunities available in the market.

 

I can’t hold grain because of cash flow issues.

Many farmers use this excuse for not having on-farm storage or not taking advantage of market carry premiums. This is an easy fix by having a conversation with the banker. I’ve worked with many bankers to adjust farmers’ pay down loans from spring pay offs to later months if it’s clear there is premium available for doing so.

For instance in my example above, waiting to get paid in July verses March means waiting four months to pay off an operating loan. Let’s assume 5% interest with cash corn values at $3.30. This means it costs 1.375 cents per month to not pay off the operating note (or 5.5 cents to wait four months). After considering basis and market carry premium at 12 cents, I will make 6.5 cents after loan expenses.

Once a farmer shows a banker they have the grain prices set with a hedge and the market is paying both of you to wait, they are on board. This is a very safe loan and bankers love safe loans. In the end, everybody wins.

 

Seems like a lot of work for 6.5 cents.

I’m glad a lot of farmers think that way because 6.5 cents on 175 bushel per acre is over $11 per acre profit.

 

What if basis goes back up?

It is possible I “pulled the trigger” on the corn basis too early. That’s why I only set basis on 60% of my grain. By doing this I reduced substantial risk in the basis while still allowing for some upside potential (maybe 5 to 10 cents) if basis rallies in upcoming months. If corn futures go up in the long-term (which I think it will) this will likely put downward pressure on basis lower and lower.

 

Current Positions

While only half of my basis is currently set for 2016, I’m getting closer to knowing my final positions for the year.

 

 

POSITION – CORN

2016

2017

2018

Corn Sold with futures

85%

10%

5-15%

CBOT Price Average

$3.94

$4.00

$4.00

Market Carry

$0.23

$.24 est

$.24 est

Basis on Farm

$-0.46 est

$-.30 est

$-.30 est

Options & spread profits

$0.23 est

Cash Price

$3.94 est

$3.94 est

$3.94 est

 

Jon grew up raising corn and soybeans on a farm near Beatrice, NE. Upon graduation from The University of Nebraska in Lincoln, he became a grain merchandiser and has been trading corn, soybeans and other grains for the last 18 years, building relationships with end-users in the process. After successfully marketing his father’s grain and getting his MBA, 10 years ago he started helping farmer clients market their grain based upon his principals of farmer education, reducing risk, understanding storage potential and using basis strategy to maximize individual farm operation profits. A big believer in farmer education of futures trading, Jon writes a weekly commentary to farmers interested in learning more and growing their farm operations.

Trading of futures, options, swaps and other derivatives is risky and is not suitable for all persons. All of these investment products are leveraged, and you can lose more than your initial deposit. Each investment product is offered only to and from jurisdictions where solicitation and sale are lawful, and in accordance with applicable laws and regulations in such jurisdiction. The information provided here should not be relied upon as a substitute for independent research before making your investment decisions. Superior Feed Ingredients, LLC is merely providing this information for your general information and the information does not take into account any particular individual’s investment objectives, financial situation, or needs. All investors should obtain advice based on their unique situation before making any investment decision. The contents of this communication and any attachments are for informational purposes only and under no circumstances should they be construed as an offer to buy or sell, or a solicitation to buy or sell any future, option, swap or other derivative. The sources for the information and any opinions in this communication are believed to be reliable, but Superior Feed Ingredients, LLC does not warrant or guarantee the accuracy of such information or opinions. Superior Feed Ingredients, LLC and its principals and employees may take positions different from any positions described in this communication. Past results are not necessarily indicative of future results. He can be contacted at jon@superiorfeed.com.

 

 

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