There are a number of tools available to crop producers who want to hedge the value of their production – and dramatic changes are coming in one of them.
Most row crop producers participate in the federal farm program, but the Agricultural Act of 2014 reworks many of them. The direct payments are gone that many producers have come to rely on since 1996 in one form or another for income support. They’ve been replaced by the Price Loss Contract (PLC), which is similar to the long-standing countercyclical program and compensates farmers for lower prices, and Agricultural Risk Coverage (ARC), which is designed to make up the gap between revenue-based crop insurance protection and a producer’s actual losses.
Although the new programs may not put producers in a “can’t-lose situation,” they can definitely protect against much of the outside risk factor, according to Dr. Pat Westhoff, director of the Food and Agricultural Policy Research Institute (FAPRI) at the University of Missouri. “Producers are going to face a very important and very difficult challenge this year, trying to decide which of the new programs to participate in,” Westhoff told Ozarks Farm & Neighbor. “The Agricultural Risk Coverage program is one that will protect you against a downturn in returns per acre, relative to recent averages, and I think it’ll have a good chance of paying out in 2014 and 2015 for a lot of producers if we have these prices.” PLC, he said, may not be quite as attractive in 2014, but could provide better protection in later years if there’s a significant long term downturn in prices.
Many producers take other steps to supplement the protection in the farm programs. The revenue-based crop insurance policies help them deal with both price and yield risk, and some producers forward contract with grain elevators to lock in a price for their next crop. That indirectly brings the farmer into contact with futures and options, since the warehouse will probably guarantee its own returns by selling a Chicago contract against the anticipated farmer delivery; Westhoff said there is probably a minority of farmers who hedge directly via futures or options; he said, “I think the fact that a lot of farmers over the years have relied on forward contracting with their local elevator is a sign that it is seen as a relatively safe way for producers who are trying to manage their risk; however, other producers feel comfortable using a little more complicated strategies.”
Some of those farmers “reward the market,” selling a contract when an attractive price is reached to cover a
portion of their anticipated production. Westhoff said, “If nothing else, just spreading out sales over the course of the year is a way of trying to make sure you hit either the highest of the highs or the lowest of the lows, so you’re not going to have an experience that’s grossly different than what the average is going to be over the course of the year.”
Mid-South farmers, though, may use different risk management tools than their Midwestern neighbors. Asked what his own clients use, Brinkley, Ark.-based broker and advisor Neauman Coleman told OFN, “I would like that it would be the futures and options market, but I would have to say that given the price volatility that we’ve seen in the futures market since 2008, if anything it has been a cash market transaction, where the farmers do not want to have exposure to the vagaries of the futures market and that proverbial margin call.”
Coleman said while more cotton farmers have been turning to the options market on the Intercontinental Exchange, it’s a challenge for rice farmers on the CBOT (Chicago Board of Trade). He said, “The options market for rice, for farmers here in Arkansas, is so thin and illiquid that it often difficult to even get a trade executed.” Forward contracting has also become less attractive. In the past, Coleman said, elevator operators would charge the farmer a fee to use their storage plus a negotiated price; these days, the farmers don’t want to absorb the extra cost.
Westhoff added there are still-unanswered questions about the Farm Bill that need to be resolved, because farmers will have a one-time shot to change the base from which their support payments will be calculated; they also don’t know how the changes will affect the value and cost of insurance. “It’s still a lingering situation and something that still requires some learning on the part of farmers,” he said. “But I think that there are hopeful expectations that there will be something notably out of the insurance products that will be favorable to the farm sector.”
