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  • Using Put Options for Risk Management

    Using Put Options for Risk Management

    Commodity prices for corn, cotton, soybeans, and wheat are high, yet could go higher.  Put options on agricultural commodity futures are an important risk management tool for producers in today’s environment. Buyers of put options pay a “premium” for the right, but not an obligation, to sell a commodity at a specified price on a future date.  The premium price (cost) is based on five primary factors:

    1. Current futures price of the underlying commodity.
    2. Strike Price: Price at which the buyer can exercise the right to sell the underlying futures contract.
    3. Time to Expiration: Number of days until the option expires.
    4. Volatility: The variation of a trading price of the commodity over time.
    5. Interest Rate: The risk-free interest rate that matches the time to expiration.

     Scenario 1, depicted in Figure 1, simulates how these five factors impact the put option premium and provide price risk management for producers.

    Figure 1. Simulated Put Option Premiums – Various Strike Prices on Single Date. Author calculations.

    On March 17, 2022, September 2022 Corn futures (CU22) were trading for $6.49 per bushel.  The days to expiration are 162 days or 44.4% of a year.  The volatility is 36.79% and the risk-free interest rate is 0.50%.  An at-the-money (ATM) put option ($6.50) would be priced at $0.63 per bushel, while an out-of-the-money (OTM) put options ($6.40) would be $0.58 per bushel.

     Scenario 2 (Figure 2) illustrates how the put premium changes over time, if the market price, volatility, and interest rate remain at the March 17, 2022, values.

    Figure 2. Simulated Put Option Premiums – Time Premium over Multiple Dates. Author calculations.

    The risk that futures prices, volatility, or interest rates could change diminishes as the days to expiration decreases. With less time there is less risk and premiums decrease.  Scenario 2 shows the put premium dropping about $0.01 per bushel per week based on time. 

    Assume a producer buys a $6.50 September 2022 put option on March 17, 2022, for $0.63 per bushel.  The producer will receive $6.50 if the option expires worthless on August 26, 2022.  The effective price would be $5.87 after deducting the put option cost of $0.63 from the strike price of $6.50.

    An effective price of $5.87 is not attractive when the current futures price is $6.49.  But the buyer of a put option can sell his option before expiration and realize a higher effective price which makes buying puts a valuable risk management tool. Figure 3 illustrates how put option premiums change as time diminishes and futures prices fluctuate.   The table maintains volatility and interest rates at the March 17th levels.

    On April 16th, if September 2022 corn futures are still trading at $6.49, the producer could sell the put option for $0.57 and price his corn for $6.49 for a net price of $6.43 plus basis (Sell for $6.49 minus $0.63 cost to buy plus $0.57 for selling the put).  If the price rallies to $6.79, the net option loss increases to $0.18 per bushel (Sold for $0.45 and bought for $0.63) but the net price increases to $6.61 per bushel (Sold for $6.79 less $0.18 net put premium cost). If the price drops to $6.19, the gain on the put premium is $0.09 (Sold for $0.72 and bought for $0.63) and the net price is $6.28 (Sold for $6.19 plus $0.09 net put premium gain)

    Figure 3. Simulated Put Option Premiums – Single Strike Price, Multiple Dates & Futures Prices. Author calculations.

    Buying put options provides buyers protection against lower prices.  The premiums can be high, especially when volatility and time to expiration are high.  But when used for short periods of time, the premiums can retain a significant portion of their value. Buying put options requires no margin deposits although the premium is paid when purchased.  Put options are an important risk management tool for creating minimum price floors over short periods of time. 

    Mickey, Scott A. . “Using Put Options for Risk Management“. Southern Ag Today 2(14.1). March 28, 2022. Permalink

  • Market Trends for U.S. Blueberry: Implications for Southeastern U.S. Producers

    Market Trends for U.S. Blueberry: Implications for Southeastern U.S. Producers

    Annual harvested U.S. blueberry acreage has increased from 40,820 to 91,400 from 2000 to 2020 (Figure 1). In this same period, average blueberry yields increased from 4,480 to 6,630 pounds per acre, and the value of utilized production jumped from $177.8M to $904.8M. Georgia, North Carolina, and Florida were among the top eight producing states, with 21,700, 7,500, and 5,200 acres harvested, respectively, representing 30% of all U.S. blueberry acreage in 2019. Most of these Southeastern-grown blueberries are sold to the fresh market during the early season window of March through June. The 2019 average farm gate value for these three states was $256.2M, or 28.2% of the overall U.S. average farm gate value for cultivated fresh and frozen blueberries. While yields are relatively lower compared to northern growing states, ranging from 4,160 to 4,740 pounds per acre, grower prices are relatively higher, from $2.64/lb. in Florida to $1.42/lb. in Georgia.

    As evidenced by the improved U.S. demand for blueberries, coordinated research and promotion efforts have proven successful drivers of industry profitability. Growers are encouraged to inform production decisions based on historical market trends and current price movements, with the goals of producing to market specifications and building in swift targeted responses to anticipated consumer demand shifts. Produce buyers possess the market side data metrics and timely analytics while growers are capable of manipulating inputs and varietal choices. Adopting a grow-on-demand approach built on shared data analysis between producers and retailers may allow the industry to capture added revenues and provide higher quality fresh berries to consumers.

    Source: Developed from U.S. Department of Agriculture. May 2021. Noncitrus Fruits and Nuts 2020 Summary. National Agricultural Statistics Service. Link: https://downloads.usda.library.cornell.edu/usda-esmis/files/zs25x846c/sf269213r/6t054c23t/ncit0521.pdf

    Morgan, Kimberly L. . “Market Trends for U.S. Blueberry: Implications for Southeastern U.S. Producers“. Southern Ag Today 2(13.5). March 25, 2022. Permalink

  • U.S. Agricultural Trade with Plenty of Uncertainties but Expected to Hit Record Numbers in 2022

    U.S. Agricultural Trade with Plenty of Uncertainties but Expected to Hit Record Numbers in 2022

    U.S. agricultural exports are projected to reach a record of $183.5 billion in 2022, up $34.4 billion from 2020 and $6.5 higher than 2021. This increase is primarily driven by higher exports of most commodity groups with oilseeds and products leading the way (ERS-FAS/USDA).  Overall good commodity prices are the main reason for this record-setting value of exports with soybean exports reaching $31.3 billion. Overall grain and feed exports are projected to reach $42.9 billion led by higher wheat as well as feed and fodder forecasts.  Horticulture product exports reaching a record of $38.5 billion is partly driven by tree nut export projection while cotton reaching its second-highest level at $8 billion. Finally, livestock poultry and dairy exports are forecast at a record $39.2 billion, with gains in beef and dairy more than offsetting declines in pork.  Mexico is forecast to overtake Canada as the second-largest U.S. agricultural market with a projection of $27 billion, while Canada is projected at $26 billion.  China is expected to remain the largest market with a forecast of $36 billion.

     U.S. agricultural imports in 2022 are forecasted at $172.5 billion, up $25.8 billion from 2020 and $1.4 billion higher than 2021 due to expected increases in livestock and beef products, horticultural products and the new “Agricultural Products” definition and in this case distilled spirits. The U.S. agricultural trade surplus is expected to increase to $11 billion in 2022. Recent global events, mainly the Russia-Ukraine war could have significant impacts to these forecasts.

    Ribera, Luis. “U.S. Agricultural Trade with Plenty of Uncertainties but Expected to Hit Record Numbers in 2022“. Southern Ag Today 2(13.4). March 24, 2022. Permalink

  • Crop Returns Comparison

    Crop Returns Comparison

    Agriculture has experienced a significant amount of change in both crop prices and input prices in the last couple of months. These changes can make it difficult for producers to determine which crop is going to be the most profitable for their situation. When deciding between two different crops a producer should examine what the costs of production for those two systems would be, along with their respective yield potential and crop price. Yield can vary from year to year so evaluating over a range of yield outcomes can give a better idea of how optimal crop choice could change as well.

    Figure 1 is an example output from the Net Returns Comparison Calculator developed at Mississippi State, showing the difference in net returns between an irrigated corn system and an irrigated soybean system across a range of yield outcomes. Returns were compared using costs of production from the Mississippi State Enterprise Budgets and prices of $6.00/bu for corn and $14.68/bu for soybeans. Corn is shown to have higher returns than soybeans at most of the yields examined. Soybeans have higher returns than corn when soybean yields are relatively high. In this situation the producer can see that corn will generally be the more profitable option, unless they have a field that historically produces high yielding soybeans and low yielding corn. These results will change as prices and input costs change. For example, a fertilizer price increase would negatively impact corn more than soybeans, making soybeans more competitive.

    The results shown in Figure 1 are not going to be the same for every producer. Every producer has their own unique costs and yield potential. It is important for them to evaluate their crop choices given their own situation. The Excel tool used to create Figure 1 can be found at https://www.agecon.msstate.edu/whatwedo/budgets.php (select and download the Net Returns Comparison Calculator). Users can compare net returns between various crop production practices for corn, cotton, rice, and soybeans. This tool can even be used for enterprises outside of Mississippi as users can customize the budgets to reflect their own farm’s costs, yields, and prices received. The more information collected on costs of production the more accurate these comparisons will be and ultimately the more informed decision on which crop is going to be the most profitable. 

    Figure 1. Comparison of Net Returns between a Corn and Soybean Production System with MSU Net Returns Comparison Tool

    Difference in Returns Between Corn and Soybeans $/ac

    Corn Yields bu/ac

    190200210220230240250
    45$       246$       303$       361$       419$       476$       534$       592
    50$       173$       231$       289$       347$       404$       462$       520
    55$       101$       159$       217$       275$       332$       390$       448
    60$         29$         87$       145$       202$       260$       318$       376
    65$        (43)$         15$         73$       130$       188$       246$       304
    70$     (115)$        (57)$           1$         58$       116$       174$       231
    75$     (187)$     (129)$        (71)$        (14)$         44$       102$       159

    Note: Any value in white, corn has higher returns than soybeans. Any value in red, soybeans has higher returns than corn

    Mills, Brian E. . “Crop Returns Comparison“. Southern Ag Today 2(13.3). March 23, 2022. Permalink

  • Another Big Placement Month

    Another Big Placement Month

    It’s time for another USDA Cattle on Feed Report to be released on Friday, March 25th.  The most interesting number in the report is going to be placements, e.g. the number of cattle placed on feed, in a feedlot with 1,000 head or more.  Market analysts expect placements to be well above a year ago, almost 10 percent more in some estimates.  Both USDA’s feeder cattle receipts data and the CME feeder cattle index data indicate more feeder cattle sales this February than last.  While feeder cattle imports from Mexico were down about 23,000 head during the month, imports from Canada were up about 29,000 head.  It’s also worth noting that placements in February, 2021 were relatively small.

    Certainly, expanding drought is likely leading to increased placements.  Some profitable recent closeouts also help boost placements.  The war driven boost in corn and wheat prices occurred after the period for this report so placements were likely not driven by the events in Ukraine. 

    Marketings, as related to fed cattle slaughter, were quite good during February.  They are expected to be up about 4.5 percent over last year.  Combining marketings and placements indicate that the number of cattle on feed will be a bit more than 1 percent larger than last year.  That will be close to the record large number of cattle on feed that was set in February. 

    Anderson, David. “Another Big Placement Month“. Southern Ag Today 2(13.2). March 22, 2022. Permalink