By Jon Scheve, Superior Feed Ingredients, LLC
As the holidays approach, the market continues to watch South American weather and Chinese purchases. The Brazilian bean crop was planted later than usual, and precipitation has been lower than normal, but it could still turn out an average size crop. Argentina has been dry as was expected with La Niña present. Crucial crop development will be taking place next month. The export pace over the next couple of months to China will play a pivotal role in price directions.
Recently I set basis on 100% of my 2020 bean crop. With the news of low U.S. carryout, I had hoped basis would continue to rally. However, as the chart below shows, basis climbed until Nov. 1 and then went flat. The red X is the date and value I sold basis, picked up on my farm. The white line shows the best posted bids available since harvest in my area.
This basis value was the highest level on my farm in 5 years. But the decision to make the trade was a difficult one and the following market factors are what I was evaluating to arrive at my decision.
Time value of money by not selling
Assuming 4% interest on an operating note, it costs me 1 cent per week to not move my beans. This is calculated — $11.80 futures (at the time of the trade) + -.30 basis = Cash Value of $11.50 x 4% / 52 weeks.
End user demand
Typically, after harvest U.S. end users start needing to source beans while farmers hold their stored beans waiting for higher prices. Sometimes this dynamic results in a late November or early winter basis bump. However, in talking with processing plant buyers and elevator managers across the Midwest, many end users seem to be largely covered into late winter. This is 2 months further out than normal, which suggested that a rally in basis was not going to happen in the near future.
Total U.S. Beans in storage uncertain
Export bids for unit trains from elevators saw a decrease of about 30 cents from their highs at harvest which was a concern that basis could trade lower. But elevator managers had told me they traded a lot of beans already and didn’t believe that many beans were left out on the farm. If farmers are low on beans in storage, an upcoming basis rally could happen at any time.
Brazil harvest impact
Brazilian beans work into China after late February at lower values than US beans. This suggests market upswing potential may be limited in both futures and basis from that point forward.
Eastern U.S. bean basis
Another concern, eastern bean basis is nearly 15 cents off last year’s values, while western basis markets are mixed. Some western locations are trading the highest values in 5 years, while others are near or below average levels for this time of year. It could be that my market had already seen the best basis it is going to see for the season.
Bean basis and futures this year seem to be correlating. As bean futures went up, basis trended higher as well. My belief was that if futures turn and trade lower due to less-than-expected export demand, basis could pullback too. With 50% of my beans still unpriced on the futures, setting my basis now reduces some of my price risk.
This likely is not the basis top
As this chart below shows, the best posted basis price on my farm in the last 5 years has been higher than where I traded earlier this month.
However, the chart also shows that after the 2014 harvest, basis rallied, but not until mid-April. With interest costs around 4 cents per month, a higher basis level doesn’t mean that I gain anything more than the cost of my money to wait several more months hoping for better basis values. I’m not sure I want to take that risk on this year, especially since there is no guarantee this will happen.
One reason why that might not occur would be that if there were any sales cancellations in the export market in February or March it could hurt both basis and futures prices. This might occur if the weather in South America is adequate to grow close to an average size crop. There is an assumption among many market participants that the bean market has only one direction it can travel right now. We have seen in the past that when so many are thinking the same thing that we can have a violent turn around in the market price.
The market could invert
However, if most market participants are correct and prices do continue to rally then the futures could invert (i.e., the nearby futures month is worth more than the month after). This would then mean that I would have to move any sold hedged futures positions forward, while I’m looking for better basis values down the road. This would be an additional cost because when I roll these sales forward, I have to buy my sales back at a higher price than the futures contract that comes behind it which causes me to lose money on my hedge position. In other words, if I wait for better basis values, I could lose money on my grain sales position AND the interest to hold the grain longer.
There have been extremely high basis levels in several past marketing years, but these high basis values were usually against new crop futures contracts that were already heavily inverted to the old crop contracts. The huge futures inverses were usually not completely offset by the high basis prices during these events.
Since 2010 there has only been 1 year in which the basis rallied enough to offset the cost of money while not dealing with any significantly large inverses. That happened following the 2012 harvest when in May of 2013 that basis rallied another 60 cents from early December. In each of the 9 other years the basis did not increase enough to offset the cost of interest or inverse. The only time it has worked to hold the beans past winter has been if the market is in a carry beyond the March contract. When the market is in a carry it is saying it will pay someone to hold the grain until it needs it later. Currently there is an inverse in the market from the March contract forward. An inverse is telling the market it wants the grain now, not later.
Pulling the trigger — Setting my basis
Considering all the factors above, I was comfortable setting my basis on 100% of my 2020 bean production at the best basis value on my farm in 6 years when accounting for interest on my money. It allowed me to reduce some price risk as well as quality and transportation risk. Weather here and on other continents along with Chinese global demand will always be wildcards that are extremely difficult to plan for. Basis values could improve, but with what I know today, there is no guarantee that basis prices will outpace the cost of interest on my money or the inverse in the market to sit on the beans in my bin any longer.
Please email email@example.com with any questions or to learn more. 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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