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					      The Basics, Importance, & Need of
             Risk Management
                                 Ag Lending Meeting
                                South Bend, Nebraska
                                   Sept. 28, 2011




                                    Chad Hart
                   Assistant Professor/Grain Markets Specialist
                                chart@iastate.edu
                                  515-294-9911

Extension and Outreach/Department of Economics
Extension and Outreach/Department of Economics
                  7.00
                                 Corn Prices vs. Costs
                  6.50
                  6.00
                  5.50
                  5.00
   $ per Bushel




                  4.50
                  4.00
                  3.50
                  3.00
                  2.50
                  2.00
                  1.50
                  1.00
                     2

                           5

                                  8

                                         1

                                                4

                                                       7

                                                              0

                                                                     3

                                                                            6

                                                                                   9

                                                                                          2

                                                                                                 5

                                                                                                        8

                                                                                                               1
                     7

                            7

                                   7

                                          8

                                                 8

                                                        8

                                                               9

                                                                      9

                                                                             9

                                                                                    9

                                                                                           0

                                                                                                  0

                                                                                                         0

                                                                                                                1
                  19

                         19

                                19

                                       19

                                              19

                                                     19

                                                            19

                                                                   19

                                                                          19

                                                                                 19

                                                                                        20

                                                                                               20

                                                                                                      20

                                                                                                             20
                                              Season-average Price               Cost per Bushel


Extension and Outreach/Department of Economics
                       Agricultural Risks
   Production risk
   Price or market risk
   Financial risk
   Institutional risk
   Human risk




                                                 Source: USDA-ERS, Dismukes, Aug. 2009
Extension and Outreach/Department of Economics
                 Ag. Risk Management
   Enterprise diversification
   Financial leverage
   Vertical integration
   Contracting
   Hedging
   Liquidity
   Crop insurance
   Off-farm income and/or investment

                                                 Source: USDA-ERS, Dismukes, Aug. 2009
Extension and Outreach/Department of Economics
                      Fear, Greed, and Ego
   Fear of making a bad decision
             -- Watching prices slip away as you wait



   Greed of expecting even higher prices
             -- Not taking advantage of good price opportunities



   Ego of wanting to claim you caught the market high
             -- “Lake Wobegon” marketing




Extension and Outreach/Department of Economics
                                                                     $ per bushel




                                                             3
                                                                 4
                                                                     5
                                                                             6
                                                                                    7
                                                                                        8
                                                  1/3/2007

                                                  3/3/2007

                                                  5/3/2007

                                                  7/3/2007

                                                  9/3/2007

                                                 11/3/2007

                                                  1/3/2008




Extension and Outreach/Department of Economics
                                                  3/3/2008

                                                  5/3/2008

                                                  7/3/2008
                                                                                        Ego




                                                  9/3/2008

                                                 11/3/2008

                                                  1/3/2009

                                                  3/3/2009
                             Marketing Plan
   To avoid fear, greed, and ego dominating your
   marketing, have a plan and stick to it.

   A marketing plan outlines your market strategy and
   your marketing objectives.

   It should examine marketing opportunities before
   and after harvest.




Extension and Outreach/Department of Economics
                  Building a Marketing Plan
   5 basic steps:

   Estimate number of bushels/animals to sell

   Calculate breakeven price

   Project price and production scenarios

   Compare pricing tools and analyze market
   opportunities

   Develop a pricing plan

Extension and Outreach/Department of Economics
          Outlining Cash Flow Needs




                                     http://www.extension.iastate.edu/agdm/crops/pdf/c3-15.pdf
Extension and Outreach/Department of Economics
          Outlining Cash Flow Needs




                                     http://www.extension.iastate.edu/agdm/crops/pdf/c3-15.pdf
Extension and Outreach/Department of Economics
           Iowa Averages, 2000-2009




                                        http://www.extension.iastate.edu/agdm/wholefarm/pdf/c3-55.pdf
Extension and Outreach/Department of Economics
                       Seasonal Pattern
  1.08

  1.06

  1.04

  1.02

  1.00

  0.98

  0.96

  0.94
           Jan Feb Mar Apr May Jun                Jul   Aug Sept Oct Nov Dec
                                           Corn     Soy

Extension and Outreach/Department of Economics
                     Pre-Harvest Strategies

                                          56%
                                   52%

                                          52%
                                   52%

                                          72%
                                   68%


                                          68%
                                  68%

                                           72%
                                  68%




                                                 Source: Farm Futures magazine
Extension and Outreach/Department of Economics
                              Contracting
   Basic Hedge-to-Arrive
   Basis
   Deferred Price
   Minimum Price
   New Generation
        Automated Pricing
        Managed Hedging
        Combination


Extension and Outreach/Department of Economics
                   Futures and Options
    Market tools to help manage (share) price
     risks

    Mechanisms to establish commodity
     trades among participants at a future time

    Available from commodity exchanges /
     futures markets


Extension and Outreach/Department of Economics
                  Summary on Options
   Buyer
        Pays premium, has limited risk and unlimited
         potential
   Seller
        Receives premium, has limited potential and
         unlimited risk
   Buying puts
        Establish minimum prices
   Buying calls
        Establish maximum prices


Extension and Outreach/Department of Economics
               Average Price Captured
             Harvest Averaging Price Target Time and Price Extended Time and Price
      2000      1.66      1.91          1.77          2.02                     2.02
      2001      1.69      1.87          1.69          1.69                     1.69
      2002      2.29      2.11          2.35          2.29                     2.35
      2003      1.88      2.05          1.88          1.88                     1.88
      2004      1.73      2.24          2.14          2.41                     2.33
      2005      1.48      1.69          1.48          1.48                     1.48
      2006      2.69      2.35          2.69          2.69                     2.69
      2007      3.02      3.27          3.11          3.28                     3.11
      2008      3.69      5.13          4.16          5.24                     4.16
      2009      3.47      3.77          3.68          3.47                     3.68
      2010      5.04      3.84          3.87          3.74                     3.87



  Average       2.60      2.75         2.62           2.74                     2.66
  Min           1.48      1.69         1.48           1.48                     1.48
  Max           5.04      5.13         4.16           5.24                     4.16




Extension and Outreach/Department of Economics
                        Lowest Average
        Harvest Averaging Price Target Time and Price Extended Time and Price
 2000      1.66      1.91          1.77          2.02                     2.02
 2001      1.69      1.87          1.69          1.69                     1.69
 2002      2.29      2.11          2.35          2.29                     2.35
 2003      1.88      2.05          1.88          1.88                     1.88
 2004      1.73      2.24          2.14          2.41                     2.33
 2005      1.48      1.69          1.48          1.48                     1.48
 2006      2.69      2.35          2.69          2.69                     2.69
 2007      3.02      3.27          3.11          3.28                     3.11
 2008      3.69      5.13          4.16          5.24                     4.16
 2009      3.47      3.77          3.68          3.47                     3.68
 2010      5.04      3.84          3.87          3.74                     3.87

               8           2              3         5                       3




Extension and Outreach/Department of Economics
                        Highest Average
       Harvest Averaging Price Target Time and Price Extended Time and Price
2000      1.66      1.91          1.77          2.02                     2.02
2001      1.69      1.87          1.69          1.69                     1.69
2002      2.29      2.11          2.35          2.29                     2.35
2003      1.88      2.05          1.88          1.88                     1.88
2004      1.73      2.24          2.14          2.41                     2.33
2005      1.48      1.69          1.48          1.48                     1.48
2006      2.69      2.35          2.69          2.69                     2.69
2007      3.02      3.27          3.11          3.28                     3.11
2008      3.69      5.13          4.16          5.24                     4.16
2009      3.47      3.77          3.68          3.47                     3.68
2010      5.04      3.84          3.87          3.74                     3.87

              2           4              2         5                       3




Extension and Outreach/Department of Economics
                           Longer History
             Harvest    Averaging Price Target Time and Price Extended Time and Price
Average            2.30      2.41         2.35           2.41                     2.37
Min                1.14      1.41         1.14           1.14                     1.14
Max                5.04      5.13         4.16           5.24                     4.16

Low Price           23          8            5             9                        8
High Price           7          8            4            15                       10

Out of 35 years (1976-2010)




Extension and Outreach/Department of Economics
                          Decision Chart
 •   Basis Contract                    Futures   • Store & Wait to Price
 •   Sell Cash and Buy Futures        Increase   • Delayed Price Contract
 •   Call Options                                • Minimum Price Contract,
 •   Minimum Price Contract,                       Variable Basis
     Fixed Basis


 Basis                                Expected                       Basis
 Weakens                              Change                         Strengthens




                                                 • Hedge
     • Cash Sale                                 • Hedge to Arrive
                                       Futures
     • Forward Contract                          • Put Options
                                      Decrease


Extension and Outreach/Department of Economics
 Factors Leading to Higher Commodity Prices




                                                 Source: USDA-ERS, Trostle, July 2008
Extension and Outreach/Department of Economics
                   Government Programs
   Direct payments – Crop-specific income
    support
   Counter-cyclical payments – Crop-specific
    price support
   Marketing loans – Crop-specific price
    support
   ACRE – Crop-specific revenue support
   SURE – Whole-farm revenue support


Extension and Outreach/Department of Economics
                           Federal Crop Insurance
                   300                                                                            12


                   250                                                                            10


                   200                                                                            8
   Million acres




                                                                                                       $ Billion
                   150                                                                            6


                   100                                                                            4


                   50                                                                             2


                    0                                                                             0
                     86

                           88

                                 90

                                       92

                                             94

                                                   96

                                                         98

                                                               00

                                                                     02

                                                                           04

                                                                                 06

                                                                                       08

                                                                                             10
                   19

                          19

                                19

                                      19

                                            19

                                                  19

                                                        19

                                                              20

                                                                    20

                                                                          20

                                                                                20

                                                                                      20

                                                                                            20
                                             Insured Acres          Total Premiums


Extension and Outreach/Department of Economics
 Causes of Loss for Iowa Corn, 1948-2010
                                      Other
                                 Wind
              Plant Disease            6%
                                 4%
                   2%
                 Insects
                   2%
                     Hail                        Drought
                     12%                          40%



                 Frost
                  3%
                  Flood
                   4%



                                    Excess
                                    Moisture
                                     27%

Extension and Outreach/Department of Economics
  Causes of Loss for Iowa Soy, 1955-2010
                  Plant Disease Wind Other
                       1%       2% 5%
                     Insects
                                                       Drought
                       0%
                                                        28%


                    Hail
                    29%




                        Frost
                         2%
                            Flood                Excess
                             6%                  Moisture
                                                  27%


Extension and Outreach/Department of Economics
           Acres Insured in 2011
          Corn and Soybeans--Iowa
                                  GRIP                   GRP
                         RPHPE    1.4%                   0.5%
                          3.6%            YP
                                         6.5%




                                                  RP
                                                 88.0%




Extension and Outreach/Department of Economics
                  7
                            Corn Insurance Prices
                  6

                  5
   $ per bushel




                  4

                  3

                  2

                  1

                  0
                      2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

                                            Planting   Harvest


Extension and Outreach/Department of Economics
                Current Subsidy Rates
     Coverage           Basic Units              Enterprise   Whole Farm
       level           Optional Units              Units        Units
        60%                  64%                   80%         not avail.

        65%                  59%                   80%           80%
        70%                  59%                   80%           80%
        75%                  55%                   77%           80%
        80%                  48%                   68%           71%
        85%                  38%                   53%           56%


Extension and Outreach/Department of Economics
                                       Premium Differences
                           $12,000

                                     2011 Story County, Iowa Corn
                           $10,000
                                     180 bushel APH
   Producer Paid Premium




                            $8,000
                                     2 100-acre optional units
                                     Revenue Protection
                            $6,000


                            $4,000


                            $2,000


                               $0
                                     50%   55%   60%      65%     70%    75%   80%   85%
                                                        Coverage Level

                                                       Optional   Enterprise


Extension and Outreach/Department of Economics
  35%
               Coverage Level Choice
  30%

  25%

  20%

  15%

  10%

   5%

   0%
           50%      55%      60%     65%         70%      75%    80%   85%   90%
                                          Coverage Level

                                   2008     2009       2010   2011


Extension and Outreach/Department of Economics
           Iowa Averages, 2000-2009




                                        http://www.extension.iastate.edu/agdm/wholefarm/pdf/c3-55.pdf
Extension and Outreach/Department of Economics
                    Thank you for your time!

                             Any questions?
                                    My web site:
                         http://www.econ.iastate.edu/~chart/

                                  Iowa Farm Outlook:
                           http://www.econ.iastate.edu/ifo/

                                Ag Decision Maker:
                      http://www.extension.iastate.edu/agdm/


Extension and Outreach/Department of Economics

				
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