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  • Inflation and Farm Prices

    Inflation and Farm Prices

    The April U.S. Bureau of Labor Statistics Consumer Price Index (CPI) update confirms what anyone who has gone to the gas station or grocery store in the last few months already suspected: prices are rising rapidly, particularly on food and energy.  The CPI is a composite measure of the cost of consumer related products, and a number of different CPI measures include different types or bundles of consumer products.  The CPI which includes all-items was up 8.5% from March 2021 to March 2022.  The March index for food only was up a bit more than that year-over-year, increasing by 8.9%.  The March energy index was up 32.0% over the past twelve months.  

    While energy and food prices have clearly gotten a lot of attention, price inflation is occurring broadly throughout the economy.  The core inflation index (all items less food and energy) for March was 6.5% higher than the previous year.  This is the largest year-over-year increase in the core index since August 1982. So, while inflation may be most pronounced on energy and food at present, it is clearly not confined to those sectors.  The overall economy is experiencing the worst inflation in forty years.  Figure 1 illustrates the annual rate of inflation over the past half century, expressed as the year-over-year percentage change in the monthly all-items CPI.      

    Figure 1.  Inflation, Measured by Percentage Change (year over year) in Consumer Price Index (CPI)

    Data Source: St. Louis Federal Reserve Bank, FRED Economic Data, https://fred.stlouisfed.org/. 

    Rising prices are a challenge not only for consumers but also for businesses who must deal with rising production costs.  Many businesses will respond to increasing costs of labor, supplies, materials, or other inputs by raising the price of their output to maintain profits.  Competitive pressure can certainly constrain a business’ ability to raise prices, but many businesses generally have some latitude to adjust their product prices in response to higher input costs.  This is not the case for farmers and ranchers, who are price takers in both input and output markets.   That is, farmers and ranchers have no ability to influence the price they pay for inputs or to set prices on their output.  Thus, their ability to pass along increased costs to their customers is basically nonexistent.  

    Figure 2 illustrates the long term trends in consumer prices and farm product prices.  It is clear that farm prices have not kept pace with broad consumer prices.  Effectively farm products are losing buying power relative to broad consumer products.  An aggregate bundle of farm products today is sold for 5.25 times the price received in 1970.  On the other hand, a bundle of consumer products costs 7.5 times what it would have cost in 1970.  Farm commodities today will only buy about 70% of the consumer products they would have bought in 1970, and that is only after the gap has narrowed considerably since the spring of 2020.  

    It is important to note that the agricultural industry as a whole is in better shape than the chart alone would suggest.  To offset the erosion of buying power, farmers have increased the quantity of products they sell by relying on improved production efficiency, yield gains, and growing the size of their farm.  In other words, the erosion of purchasing power per unit of farm output has been offset by increases in the scale of production.  Necessarily over time, an increase in farm size also implies a decrease in the total number of farms (two trends that date back hundreds of years).  The challenge for the individual farm or ranch is to manage times of volatility and uncertainty while also navigating the normal long-term trend of attrition, and thus surviving to be one of the “fewer” farmers moving forward.  We appear to be in the middle of one of those times when price volatility is a significant management challenge.          

    Figure 2.  Consumer Prices and Farm Product Prices

    Data Source: St. Louis Federal Reserve Bank, FRED Economic Data, https://fred.stlouisfed.org/. 

    The warning on the horizon for agricultural producers is not the immediate problem of inflation.  Instead, the concern is what comes after.  Producers can weather inflation reasonably well, as long as, farm prices are moving more-or-less in conjunction with input prices.  Such a situation is not unprecedented: take the 1970’s as an example.  While the 10 years from 1973 to 1982 represent some of the worst inflation in this country’s history, we don’t talk about a 1970’s agricultural crisis because farm prices were mostly keeping pace.  In fact, in the face of extraordinary inflation, agricultural conditions encouraged farmer investment and taking on additional debt.  The crisis didn’t appear until the 1980’s.  As inflation moderated and commodity prices flat-lined, the burden of servicing debt at high interest rates (which were both a result of and the treatment for high inflation) became unsustainable for an industry that was not only highly dependent on short and intermediate term financing but that had also leveraged up to high debt levels.  The lessons moving forward in an uncertain economy where both inflation and farm prices are rising together: 1) farm prices are not likely to keep up with broader inflation rates indefinitely, 2) higher interest rates are very likely coming soon, and 3) don’t take on new debt based on the assumption that current conditions will continue. 

    Anderson, John D. , Steven L. Klose. “Inflation and Farm Prices.” Southern Ag Today 2(22.3). May 25, 2022. Permalink

  • Large Placements Bring Tighter Feeder Supplies

    Large Placements Bring Tighter Feeder Supplies

    USDA released the May Cattle on Feed report on Friday, May 20th and it showed continued large numbers of cattle on feed.  Placements, marketings, and cattle on feed were 99.1, 97.8, and 101.7 percent of a year ago, respectively.  Placements and the number on feed were larger than the average pre-report estimates and so the report was regarded as being a negative one for the market.  

    The report was important in terms of calf price expectations for later this year.  Placements were 99.1 percent of a year ago, 1.809 million head.  For the January-April period, 7.651 million feeders have been placed.  That is the second largest number, behind only 2019, in the last 20 years.  Maybe more important, it is the largest number of placements as a percent of January 1 cattle outside of feedlots.  Placements this year have totaled 30 percent of the January 1 feeder cattle supplies.  Again, more evidence of pulling feeders ahead and it implies tighter supplies of feeder cattle as the year goes on.  Those tighter supplies should translate into higher calf and feeder prices.

    The next quarterly cattle on feed report will have some more evidence of heifers on feed.  Given the rate of placements of available feeder cattle, heifers as a percent of cattle on feed should remain large, meaning continued herd contraction from the replacement side, as well as the cow side.

    Anderson, David. “Large Placements Bring Tighter Feeder Supplies“. Southern Ag Today 2(22.2). May 24, 2022. Permalink

  • Forward Pricing with Options on ICE Cotton Futures

    Forward Pricing with Options on ICE Cotton Futures

    A producer’s marketing plan is a contingency plan to sell a commodity in the context of price risk. Cotton prices have been in a long term up-trend, with considerable volatility in recent weeks (see the blue line in Figure 1). A typical marketing goal would be to sell commodities at relatively higher prices, or (conversely) protect un-sold commodities from down-side price risk.  

    One way to reduce the risk of lower prices is to forward cash contract portions of expected production.  However, drought-elevated production risk in 2022, coupled with uncertain plantings, uncertain yield impacts from reduced fertilizer usage due to higher fertilizer prices, inverted futures markets, likely price volatility, and higher costs of financing have all likely led cotton merchants to limit their forward cash contract offerings.

    Futures hedging by selling ICE cotton futures contracts is another approach to set a price floor, subject to basis risk. However, the possibility of higher trending futures has raised the actual and potential margin risk of futures hedging.  In addition, futures hedging sacrifices any benefit of potentially selling at higher cash prices if the market continues to rise.

    Put options are one way to lock-in high price levels without margin calls or sacrificing upside flexibility. A put option gives the buyer the right, but not the obligation, to sell cotton futures at a certain price. In Figure 1 below, Dec’22 cotton futures (the blue line) have trended higher since 2021. As of May 3, the Dec’22 futures settled at 126.18 cents per pound. While this has happened, the premium for put options on Dec’22, like the $1.20 put option graphed in red, have gotten cheaper over the long term. The $1.20 put option means that the buyer of this put option has the right to sell Dec’22 cotton futures at $1.20 per pound.  Note that hedgers have flexibility in the price coverage level by being free to choose from different strike prices.

    Put options at a given strike price cost less in a rising market because the put option gives the right to have sold Dec’22 futures at $1.20, which has intrinsic value only when the underlying futures price is below $1.20.  Therefore, put option premiums move opposite to the direction of the underlying futures price.  This is important because an increasing put option premium can act as an insurance payment against falling futures and falling cash prices (assuming a stable cash basis).  The insurance analogy is important since nobody knows the direction of futures prices for certain.  And unlike other forms of insurance, put options can be offset when they are no longer needed, e.g., when the crop is sold in the cash market, giving hedgers a chance to recover  some of their initial expense in option premiums.

    At 9.71 cents per pound (as of May 3), buying a $1.20 put option on Dec’22 ICE futures is essentially buying the right to a 110.29 cent short futures ($1.20-$0.0971) position, without the margin call exposure and without removing upside potential if markets continue to strengthen.   Waiting to implement this strategy could be beneficial, i.e., more affordable, if ICE cotton futures continue to rise, which they might.  So hedging portions of expected production with put options over the next several months might be a good way to dollar-cost-average decent hedged prices.

    Figure 1. Dec’22 ICE Cotton Futures Settlement Price (in Blue) vs. Associated 120 cent Put Option Premium (in Red).

    Daily

    July 28, 2021 – May 3, 2022

    Robinson, John. “Forward Pricing with Options on ICE Cotton Futures“. Southern Ag Today 2(22.1). May 23, 2022. Permalink

  • Mental Health & Agriculture: There is Always Hope

    Mental Health & Agriculture: There is Always Hope

    Agriculture is known to have numerous unique occupational hazards. Physical hazards include heat and sun exposure and the potential dangers of working with heavy machinery. Working out in the elements also brings the risk of venomous snakes, spiders, and disease-carrying mosquitos. What is less often discussed, however, are the mental and emotional hazards associated with working in agriculture. The volatile farm economy, long days at work, social isolation, and natural disasters can add stress beyond what is expected or tolerated in other industries. 

    May is Mental Health Awareness Month and is a significant opportunity to remind anyone struggling that they are not alone and do not have to suffer in silence. A 2021 poll commissioned by the American Farm Bureau Federation found that farmers and farm workers were more comfortable talking to friends, family, and doctors about stress and mental health than in 2019. Open dialogue about stress and mental wellbeing can help reduce stigma in the community, which is often cited as a barrier to seeking care for a mental health challenge. Emotional wellness is a key dimension of our health and must be maintained, just like physical wellness, to live a fulfilling life. If you are struggling or notice someone else struggling, seek help. Recovery from a mental health challenge or illness, like recovery from a heart attack or other physical illness, is possible.  There is always hope.

    The following resources are designed for agricultural producers and families:

    Authors:  Miquela Smith, MPH Extension Program Specialist – Health and Tiffany Dowell Lashmet, Associate Professor & Extension Specialist – Ag Law

    Smith, Miquela, and Tiffany Dowell Lashmet. “Mental Health & Agriculture: There Is Always Hope.” Southern Ag Today 2(21.5). May 20, 2022. Permalink

  • U.S. Long-Grain Rice Faces Growing Challenges Overseas

    U.S. Long-Grain Rice Faces Growing Challenges Overseas

    The U.S. has consistently ranked among the top-5 rice exporters in the world. However, since hitting a record 3.98 million metric tons (mmt) in 2002, U.S. rice exports have shown a downward trend, reaching 2.98 mmt in the marketing year 2020/21. The decrease in US exports contrasts with a growing global rice market and results in a significant drop in the US share in global rice exports in the last two decades. The decrease in U.S. exports is exclusively a result of a drop in long-grain rice exports since exports of medium- and short-grain rice have shown a positive trend. Long-grain rice is the main type of rice produced in the Mid-South, accounting for over 91% of the volume of production. 

    In the last 20 years, exports of long-grain rice to North America and the Caribbean, the two largest market destinations, have grown marginally (less than 1% a year), while those to Central America and the Middle East have decreased moderately (between 1 and 2% a year on average). Exports to Europe have not recovered since the GM-contamination case in the mid-2000s. Exports to Mexico, the largest market for US long-grain rice accounting for a quarter of total exports in the period 2018-2020, show almost no growth since the early 2000s, and more recently are in a downward trend as competition from other suppliers, primarily Mercosur, grow. Haiti remains a core and growing market for US rice, but one plagued with risks and uncertainty. Competition in Central America, primarily from Mercosur, is eroding the market share of US rice despite its preferential access under DR-CAFTA. 

    Efforts are being made to improve the competitiveness of US rice, particularly when it comes to rice quality. The US was once regarded as the golden standard for long-grain rice quality, but many will argue that is a thing of the past. The blame goes far and wide as to why the quality of US long-grain rice has diminished, but what matters is that the industry is taking steps to address the issue. The US exports around half of its rice crop every year, so working on regaining competitiveness in the global market is of utmost importance.   

    Durand-Morat, Alvaro. “U.S. Long-Grain Rice Faces Growing Challenges Overseas“. Southern Ag Today 2(21.4). May 19, 2022. Permalink