The Best Way to Re-own Sold Grain

What’s Happened…

We’ve seen a recent price set–back in the grain complex with corn, soybeans, and wheat all making a downward turn in late September and early October. This may be providing an opportunity to retain ownership of forward-sold bushels or bushels that will be sold and delivered at harvest. Often people ask for the best way to re–own. Unfortunately, there probably is no best way, as best is relative. Best is relative to risk tolerance of the buyer as well as potential return. This article will review buying futures versus purchasing a call option. What may be termed advanced strategies such as bull call spreads, long fences, and ratio call spreads have merit and should be discussed with your advisor.

Why this is Important…

Agriculture is one of the few industries in the world that allows a participant to sell the product they are producing and have a means to retain ownership. This ownership can be a fixed risk position or unlimited risk. A call option provides the buyer the right (not obligation) to be an owner of the underlying futures. For some, reinvesting part of their cash sale into a fixed risk ownership strategy has merit. In addition, this strategy may be a catalyst to good cash marketing. If you don’t have storage space available, forward selling ahead of harvest with the idea of re-owning with a quantified risk is a near ideal way to create a balance to your marketing. You shift risk and retain ownership, also with a fixed risk. Flexibility occurs with choices of strike prices (price level of re-ownership) and window of time that can be a few days or multiple months. 

Some people prefer using futures. The futures market is straightforward. When you purchase a futures contract, the position either goes up in value or down in value. If the position is sold at a higher price than it was purchased, a gain is captured. If the position is exited at a lower price, a loss is incurred. The advantage of the futures market is the direct relationship with the market. That is, if futures go up $0.10 a bushel from your entry price, there is a $0.10 gain. With a call option, the initial gain is likely not penny for penny. In addition, when a call option is exited, the exit price needs to exceed the premium expense in order to capture a gain. The downside to futures can be the emotion of owning something that, if losing value, creates an emotional exit. Since futures are a leveraged position (which means you only put up a small percentage of the value of the contract when entering), a minimum (called maintenance margin) must be met. In simple terms, you must be able to meet the minimum cash requirement on a continuous day-to-day valuation. It should be noted that both futures and options are subject to commission and fee expenditures. 

Since the risk of a call option is fixed, it offers what is termed “holding power.” As an example, if a call is purchased with 100 days of time, and the underlying futures market drops this month and rallies thereafter, you likely won’t exit the call while the market was dropping. In the same scenario, if using stop orders to manage risk of a sold futures position (orders triggered by a certain price level), you may get stopped out on a price drop. If the market rallies after the drop, you are now out of the market.

What can you do about it?

If you believe prices may go higher and want to retain ownership, determine what type of risk you are willing to incur and develop a strategic ownership strategy. Knowledge is power. Invest time to understand the pros and cons of futures and call options. Discuss your goals, tolerances, and needs with your advisor so they can help you fine tune a strategy that is right for you. Set targets to exit in advance so that, if your goals are achieved, you have an exit already in place to reward your position.

Find out what works for you… 

Work with a professional to find the strategy or strategies that are best suited for your operation. Communication is important. Ask critical questions and garner a full comprehension of consequences and potential rewards before executing. The idea is to make good decisions for the operation rather than emotionally-charged responses to market moves, which are always dynamic.

About the Author: With the wisdom of over 36 years at Total Farm Marketing and following across the Grain Belt, Bryan Doherty is deeply passionate about his clients, their success, and long-term, fruitful relationships. As a senior market advisor and vice president of Brokerage Solutions, Doherty lives and breathes farm marketing. He has an in-depth understanding of the markets and marketing tools, an excellent listener, and communicates with intent and clarity to ensure clients are comfortable with their decisions.

The data contained herein is believed to be drawn from reliable sources but cannot be guaranteed. Individuals acting on this information are responsible for their own actions. Commodity trading may not be suitable for all recipients of this report. Futures and options trading involve significant risk of loss and may not be suitable for everyone. Therefore, carefully consider whether such trading is suitable for you in light of your financial condition. Examples of seasonal price moves or extreme market conditions are not meant to imply that such moves or conditions are common occurrences or likely to occur. Futures prices have already factored in the seasonal aspects of supply and demand. No representation is being made that scenario planning, strategy or discipline will guarantee success or profits. Any decisions you may make to buy, sell or hold a futures or options position on such research are entirely your own and not in any way deemed to be endorsed by or attributed to Total Farm Marketing. Total Farm Marketing and TFM refer to Stewart-Peterson Group Inc., Stewart-Peterson Inc., and SP Risk Services LLC. Stewart-Peterson Group Inc. is registered with the Commodity Futures Trading Commission (CFTC) as an introducing broker and is a member of National Futures Association. SP Risk Services, LLC is an insurance agency and an equal opportunity provider. Stewart-Peterson Inc. is a publishing company. A customer may have relationships with all three companies. SP Risk Services LLC and Stewart-Peterson Inc. are wholly owned by Stewart-Peterson Group Inc. unless otherwise noted, services referenced are services of Stewart-Peterson Group Inc. Presented for solicitation. 

Author

Bryan Doherty