Setting basis on beans

Largely due to great weather in South America, soybeans have steadily declined every day since their high on Dec. 5 losing nearly 65 cents. However, there is still plenty of time left in South America’s growing season. If there is a weather issue, $10 is possible again, if good weather continues, sub $9 could be likely.

 

Setting basis on beans

Many farmers just concentrate on the cash value of their crop when selling, without realizing the three major variables that make up that price — futures, basis and carry. All three of these variables actually move independently of each other, and the most profitable marketing plans take into consideration each separately to maximize profit potential. Basis is often discussed as something farmers should be considering when selling their grain, but often the practical applications and detail in understanding how to actually do that is not provided. That’s a shame, because having a basis strategy as a part of a farmer’s overall marketing plan is important in optimizing profit and minimizing farm operation risk. Following provides detail on how I “set the basis” on my ’17 beans.

For logistical reasons I needed to move all of my beans out of on-farm storage by the end of the year. Therefore, in November I set the basis on 100% of my ’17 bean production at a basis of -70 cents against Jan futures picked up on farm in the month of December. When comparing prices locally, a nearby elevator was bidding -100 cents and a processor 60 miles away was bidding -80 cents picked up on my farm. I always want to compare prices as on-farm pickup and thus subtract all of my freight costs to keep comparisons apples to apples.

The chart below illustrates the basis I received, which was set on 11/16/17 and shown with a red X. The local basis bids with normal freight rates in my area since harvest are shown as well.

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I’m pleased that I was able to secure the highest basis level near my farm when comparing prices since the start of the harvest, especially since I needed to move my beans by the end of the year.

 

How does “setting basis” work?

Since I am a bean seller, I have been selling bean futures several times over this past year. Therefore, I am short futures in my hedge account. So, to complete this trade (i.e. get paid for my crop), I exchanged futures with the company I sold the beans to the day I set the basis.

When I exchange the futures for physical product, the buyer gives me futures at a price level that they choose. The price they choose really doesn’t matter. I then give them the physical bushels in exchange for cash at the futures levels that were just chosen LESS the basis level set in the trade.

 

Why doesn’t the price matter in the exchange?

The price doesn’t matter because any profit or loss in the hedge account is made up when I get the check from the elevator. All that ultimately matters is what I sold the futures for in my hedge account, and what basis level I choose. The price of the futures when I physically set basis and deliver the grain is not a factor.

 

Why not just sell the bushels for cash and buy back futures in your hedge account?

That is basically what I’m doing. However, doing it the way I describe above assures me that I have zero risk of the board moving between when I call my grain buyer and when I call my broker. I want to maintain control of the price and not allow any unexpected price movement, thus removing any added unnecessary risk. Plus it doesn’t cost me any more to do it.

This is actually how almost all of the big grain companies do these trades too. It often seems confusing to farmers the first time they do it, but after about three times, most farmers don’t understand why they weren’t doing it this way before.

 

Why I hedge using futures instead of using HTAs

Farmers always ask when I’m doing marketing presentations why I don’t just use HTAs (Hedge To Arrive) contracts. Then I wouldn’t have to worry about margin call, setting up a hedge account or exchanging futures.

The reason is easy: I’m more profitable when I don’t do HTAs. The trade above is a great example. Had I done an HTA with either the processor or local elevator I would have missed out on 10 cents of basis opportunity. Doing a little extra work and allowing for more flexibility almost always means bigger profits for my farm operation. It may not always be clear at the time, but farmers will always pay more for convenience and ease when it comes to grain marketing. There is always someone out there with their hand in farmers’ pockets wanting to “make their lives easier.”

 

Doesn’t using a brokerage account cost money?

Yes, there are small fees when using your own hedge account, but many end users and elevators also charge small fees for HTAs too. Generally, HTA fees are similar to hedge account expenses.

 

What about margin call?

I’ve written extensively on why a true hedger (and their banker) is never bothered by margin calls. So, I don’t worry about margin calls….and neither does my banker.

 

Did it make sense to store beans for only two months?

Yes. For several reasons:

  • Freight cost savings — My farm is located 60 miles away from the processor and during harvest lines are often three hours long. When taking into consideration time and labor, I estimate it costs 10 to 15 cents MORE to haul grain during harvest than the rest of the year.
  • Basis opportunity — Basis is usually the lowest during harvest because there is plenty of supply. By waiting I received 5 to 10 cents more basis than any price before, during or after harvest.
  • Market carry profits — I also captured 10 additional cents in market carry rolling my futures positions from Nov to Jan.
  • Moisture profits — By storing on-farm I can mix beans with 14% moisture with beans that are 10% moisture.
  • Convenience — No waiting in line during harvest, allows me to keep the combine running consistently and steady with less labor.

So, in total I made at least 25 cents more by storing the beans for just two months. So yes, I certainly think it was worth it.

 

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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