By Jon Scheve, Superior Feed Ingredients, LLC
There was some positive trade news last week. Mexico and the U.S. may be able to avert trade issues — which is positive for corn — and Chinese officials are coming to Washington to resume talks, which could help soybeans.
Bean futures are reacting quickly to any trade news. Many suspect if the trade dispute was resolved, beans would rally $1 per bushel. Because of that upside potential there is usually a quick surge in prices because so many fear of missing out on the potential rally.
The basis or cash market isn’t reacting as well though for beans. The west coast export facilities’ bean basis is at least 60 cents below normal levels, which is putting downward pressure on basis throughout the Midwest. This suggests a lot of beans that normally go for export need to find a new home. That has put downward pressure on the processors bids here in the Midwest. I’m surprised this hasn’t spilled over into the futures market yet.
Some beans purchased for export to China before the tariff may still be shipped, because it can be cheaper to just pay the tariffs than find other buyers in the current trading climate. Exporters do not want to take on any more ownership until they know they can actually sell it to someone who will move it.
Usually the basis market is more cautious than the futures market. I’m not looking for basis to improve much until there is a more firm resolution in the tariffs with China. In the meantime, elevator managers are concerned about where all the grain from harvest will go. Some have hinted that basis may get worse before it gets better. Increases in futures prices may be countered by a drop in basis levels.
What to store at harvest
I have over 100% of on-farm storage and I highly recommend that most farmers should as well. Having 100% on-farm storage provides farmers with a low-risk way to maximize their profit potential and allows for more flexibility in their marketing plans. It also makes the decision of what to store at harvest time simple.
Still, many farmers are resistant to it and ask me how they should prioritize their crops with only partial on-farm storage. The following illustrates how I analyze which crops I would store first. Examples below are based upon the local market conditions of where my farm is located in southeast Nebraska.
Consideration 1: Futures values don’t matter when deciding which crop should be stored.
This runs contrary to what many farmers think, but it’s true, futures don’t matter at all. Only basis opportunity, market carry and interest on an operating note have an impact on storage decisions.
Futures values shouldn’t be considered because I can always sell my grain and then immediately re-own futures on paper and maintain the same market downside risk and/or upside potential. In other words, the risk is exactly the same if I have unpriced grain in a bin as it is to have a long futures position on paper.
I know that some people will suggest re-ownership through options is a better way to do this, but that is conversation about which risk management strategy is better. Both ways are trying to accomplish the same end goal of capturing upside potential in the market. That is NOT my focus with this newsletter.
Consideration 2: Basis
Basis is the difference between the price on the CBOT and local bid. Basis is constantly moving throughout the year. The trend is usually that it moves up over time from harvest until sometime in the summer. To understand how and why basis affects storage decisions, following provides a real example of 2017 basis levels near my farm.
Local Bean Processor Bids:
At Harvest Last Year: -70 cents
Year’s Best Basis: -30 cents (July shipment)
Difference: 40 cents increase in value
Local Corn Ethanol Plant Bids:
At Harvest Last Year: -42 cents
Year’s Best Basis: -17 cents (July shipment)
Difference: 25 cents increase in value
These two examples illustrate that with basis management alone storing grain from harvest to summer had the potential to increase profits…last year it was more for beans than corn.
Consideration #3 – Market Carry
Market Carry – When the price of each consecutive futures month is higher than the current month. In this example July soybean futures are higher than November, and July corn is higher than December.
Current 2018 price difference between harvest and July as of Friday:
Beans: 43 cents higher
Corn: 25 cents higher
Note, carry can only be collected if grain is already sold. If the grain wasn’t already sold, when I buy my futures position back in October at harvest as I sell my cash grain and roll my futures positions forward until July looking for higher prices it would cost me the values above, rather than collect them.
Consideration 4: Interest on my operating note
Farmers will tell me they need to sell grain for cash flow reasons. What they are really telling me is that they have an operating note that they would like to pay down. Many banks are willing to work with farmers that will actually store hedged grain trying to collect storage and work the basis markets. Just because a loan is due doesn’t mean I can’t have a conversation with my banker about how both of us can profit together.
However there is a cost to use the banks money and not pay the loan off. That is figured by looking at the interest rate on my operation note against the cash value of grain that I’m going to store. Then I multiply the cash value I could get for my grain today by the value of my operating notes interest rate.
If I figured I can get a one year operating loan at 5.5% then my cost to store either crop is as follows.
Beans: CASH corn values are at $8.22 per bushel x 5.5% = 45 cents per year or 3.8 cents per month to keep beans in storage.
Corn: CASH corn values are at $3.45/bu x 5.5% = 19 cents/year or1.6 cents/month to keep corn in storage.
Which crop is better to store?
Following analyzes the profit potential of storing beans and corn from harvest in October until July (about 10 months) with what we know today on the market carry and using the basis potential from last year.
Basis Potential: 40 cents
Market Carry: 43 cents
Interest Expense: -38 cents
Total Potential: 45 cents/bu
Basis Potential: 25 cents
Market Carry: 25 cents
Interest Expense: -16 cents
Total Potential: 34 cents per bushel
The math today indicates there is an 11-cent opportunity advantage to store beans over corn. Still there are some additional considerations to think about.
The trade war
If the trade war continues, it might be unlikely the basis potential above can be achieved. So, going into harvest this analysis would need to be done again with updated basis numbers to see if the current advantage can be maintained. I would want to look at current statements from officials in Washington on trade negations to see if we are close to an agreement or not.
Carry fluctuations during harvest
That 25-cent corn carry is lower than last year. Historically corn carry usually increases during big crop years, so it’s reasonable the corn carry could still increase to 30 cents in two months, which would offset some of beans’ advantage over corn. There is also the possibility that with a large bean crop and a trade war that is not resolved that market carry for beans could increase another 5 cents as well.
Many farmers start harvesting corn at 17%+ and dry it down, but very few harvest wet beans. So, the cost to dry corn needs to be considered too. For those of us that only use air to dry the corn it can be more time consuming to dry the corn down and might mean that we will have to store corn over beans for logistical reasons. However this could still be a savings of more than 15 cents and would favor storing corn over beans.
I’m not against filling the bins first with beans during harvest and then unloading the bins to complete the corn harvest later if the market so dictates.
The cost to carry unpriced futures
The above example assumes all futures are priced as of harvest. But, if any grain is unpriced, it could be more of an expense to store beans over the corn because the carry is larger for the beans. There is no indication of when prices will rally to a point that warrants making a futures sale. Based upon the markets of last year that could be late May before a sale is made.
Sometimes end of the year income is necessary to offset expenses. Since I can generate more money by moving the same amount of bean bushels as to corn, this can become a storage factor too.
Basis fluctuations and unknowns
Usually basis improves throughout the year and into summer for both crops. However, a North Dakota elevator manager told me bean basis moved 40 cents higher last year from harvest until summer, but corn basis only moved 10 cents. Location plays an important part of the decision process as well across many parts of the Corn Belt.
Generally speaking when I’ve done this analysis in the past, corn has been the preferred crop over beans in many areas. But there is no perfect solution when you don’t have enough storage. All of the factors above should still be considered before making a decision. One must also realize a crops’ storage advantage can change over time. For instance, the China trade war is a big unknown factor right now that may change over the next few months. This might be the year it pays to store beans over corn. However I still lean towards corn because I like doing what usually works and not betting on the long shots.
Because I don’t know what will happen exactly in the market, I like to suggest that all farmers have 100% storage capacity. Storage allows farmers to take advantage of all profit potential available to them, without having to worry about all of the shifting market factors affecting their bottom line. Plus the potential from the market as sited above on either crop it practically pays the yearly payments to build a new bin.
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.
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