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Livestock Risk Protection and Price Basis

Livestock Risk Protection and Price Basis. Tim Eggers, Iowa State University Extension Field Agricultural Economist. September Feeder Cattle. October Feeder Cattle. November Feeder Cattle. A Marketing Plan. A marketing plan should address: short term survival long term success

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Livestock Risk Protection and Price Basis

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  1. Livestock Risk Protection and Price Basis Tim Eggers, Iowa State University Extension Field Agricultural Economist

  2. September Feeder Cattle

  3. October Feeder Cattle

  4. November Feeder Cattle

  5. A Marketing Plan A marketing plan should address: • short term survival • long term success • key elements • map to destination

  6. Key Elements of a Marketing Plan • Marketing objectives • Cost of production • Current market environment • Contingency plans • Flexibility

  7. Pricing Targets • Establish minimum price objective • Risk tolerance • Your cost of production • Could use Beef Cow/Calf Enterprise Budget • Your records provide better information

  8. Strategies for Marketing Spring Calves • Wean, Sell Nov. 1 • Background, Sell Jan. 1 • Background, Finish, Sell July 15 • Wean Sep. 1, Finish, Sell June 1 • Wean Nov. 1, Finish, Sell July 1

  9. Wean & Sell Nov. 1 • Calves weaned & sold on Nov 1 (550#) • Benchmark strategy • Cost of Production—Cow costs • Market Value Factors • Pre-conditioning • Source verification

  10. Wean & Sell Nov. 1 • Risk Management Factors • Forward Contract • What, When, Where, Price • Sale Barn • Video Auction

  11. Background & Sell Jan. 1 • Wean November 1 • background 60 days • Sell at ~670# on January 1 • Increased risks • Price risk and opportunity • Rate of gain risk and fleshiness • Mortality and morbidity risk

  12. Background & Sell Jan. 1 • Risk Management Factors • Forward Contract • LRP Insurance • Minimum coverage period is 13 weeks, so insurance must be purchased as appropriate

  13. Background & Finish • Previous backgrounded calves put in feedlot January 1 and fed until August 20 • Increased Risks • Price risk • Opportunity cost • Mortality, morbidity • Weather • Feed price

  14. Wean Sep. 1, Finish • Lower cow costs • More feed yardage costs • Improved quality grade

  15. Risk Management Tools • Futures market • Hedging • Buy a Put Option • Forward Contract • Livestock Revenue Insurance • Livestock Risk Protection (LRP) • Livestock Gross Margin (LGM)

  16. Feeder Cattle Futures Contract • Feeder Cattle Futures Contract (FC) • 50,000 pounds (67 hd- 750# feeder cattle) • Contract months—Jan, Mar, Apr, May, Aug, Sep, Oct, Nov • Contract expires last Thursday of contract month • Cash settle, no delivery • Margins--$1000

  17. Live Cattle Futures Contract • Live Cattle Futures Contract (LC) • 40,000 pounds (33 - 1200# cattle) • Contract Months—Feb, Apr, Jun, Aug, Oct, Dec • Expires last business day of the contract month • Contract settled by physical delivery of cattle • Margins--$700

  18. Hedging: Money Required • Commissions vary with broker • Example: $60 per contract = about 15 cents per cwt. (LC) about 12 cents per cwt. (FC) about 1-2 cents per bu. (Corn) • Margin Money • Interest on margin money

  19. Basis Basis = Cash Price - Futures Price If Cash = $120 and Futures = $110 Basis = • Estimated basis is a forecast based on history.

  20. Hedge • Managing price or market risk by taking a position in the futures market opposite to that held in the cash market • Cash position—33 head of cattle to be marketed in June • Hedge position—Sell a live cattle contract on the CME

  21. Hedge Example Cattle ready for market in June Sells June LC futures at $98.50/cwtin October Expected local basis in June is $0.74 Expected hedge price is $99.24/cwt ($98.50 + $0.74) If futures are $95 when hedge is lifted there will be a $3.50 gain on the futures contract ($98.50 – $95) Cash price will be $3.50 less than expected ($99.24 – $95.74 = $3.50 loss), offsetting the futures gain Result will be expected price of $99.24 Gain offsets loss as long as basis is as expected ($0.74)

  22. LRP Exercise • Cow/calf producer • End of March wean and sell • 36 steer calves at 550 lbs • Buys LRP on September 22 • (26 wks out)

  23. Size of Coverage Futures and options have fixed contract sizes: • Fed cattle: 400 cwt. or about 32 head • Feeder cattle: 500 cwt., 60-100 head • LRP can be purchased for any number of head or weight

  24. Expiration Date of Coverage • LRP ending date is fixed. • Insurance contract settles on end date. • Price may change after date of sale. • Market date should equal end date • Futures or options can be lifted at any time before the contract expires.

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