Livestock Marketing - Understanding Marketing Outcomes

Jay Parsons Author

11/20/2020 Added

3 Plays

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Livestock Marketing

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[00:00:02.210]Welcome to Livestock Marketing,
[00:00:04.120]Understanding Marketing Outcomes.
[00:00:06.380]My name is Jay Parsons, I am a professor
[00:00:08.950]and a farm and ranch management specialist
[00:00:11.830]in the Department of Agricultural Economics
[00:00:14.220]at the University of Nebraska, Lincoln.
[00:00:23.890]In previous episodes of livestock marketing,
[00:00:26.880]we discussed the relationship between the futures price
[00:00:29.880]that you see on the Chicago Mercantile Exchange
[00:00:32.830]and the cash price that you see in your local markets.
[00:00:36.040]It can be summarized by this equation
[00:00:37.950]at the top of this slide.
[00:00:39.730]Futures price plus a basis equals your cash price
[00:00:44.820]or another words basis is defined as the difference
[00:00:47.960]between the cash price you see in your local market
[00:00:50.747]and the futures price that is traded
[00:00:53.250]on the Chicago Mercantile Exchange.
[00:00:56.320]If a producer doesn't do anything to control price risk
[00:00:59.710]but only shows up in the local auction market
[00:01:02.080]to sell their live animals at a point in time,
[00:01:05.580]they accept full market risk in this equation.
[00:01:09.950]On the other hand, a producer who enters
[00:01:12.240]into a private contract that locks in the cash price
[00:01:16.240]is locking in all parts of this equation
[00:01:19.410]in that they're locking in those expectations
[00:01:22.810]as attributed to that futures price
[00:01:25.520]that is published at that point in time and also the basis
[00:01:29.040]that explains the difference between that futures price
[00:01:31.730]and the cash price that they've accepted
[00:01:33.560]in the private contract.
[00:01:36.600]In previous episodes, we also talked about some tools
[00:01:39.330]that help control parts of this equation.
[00:01:42.010]In particular, we talked about the CME tools,
[00:01:44.890]the futures contract and the put option.
[00:01:47.970]As CME tools, both of these are designed
[00:01:50.290]to control the futures price risk component
[00:01:52.960]of this equation.
[00:01:55.000]So there are both subject to basis risk
[00:01:58.650]and they're both subject to a brokerage firm costs
[00:02:02.610]in order to be trading on the board of trade.
[00:02:06.620]The major difference between the two
[00:02:08.270]is that a futures contract if you sell a futures contract
[00:02:12.000]that will eventually need to be offset and net it out
[00:02:15.110]so you either make money or lose money on it
[00:02:17.650]depending upon how the markets move
[00:02:20.100]because it's a potential to lose money on it,
[00:02:22.950]you have to maintain a margin account
[00:02:25.320]to cover that potential loss
[00:02:27.370]and you subject yourself then to a margin call risk
[00:02:30.820]during the time that you actually hold that position.
[00:02:34.480]A put option on the other hand is an option
[00:02:36.960]to sell a futures contract but not an obligation.
[00:02:40.470]As such you do not have to maintain that margin account
[00:02:42.925]and be subject to margin call risk
[00:02:45.820]but in an exchange you have to pay a premium cost
[00:02:48.420]up front to purchase that option.
[00:02:51.580]You don't have to exercise the option
[00:02:53.550]in that if prices go up,
[00:02:55.330]you don't have to go ahead and sell a futures contract,
[00:02:58.380]you can just it and collect the upside potential
[00:03:01.500]in the marketplace but you will, of course
[00:03:04.190]have that premium cost upfront
[00:03:05.890]that you can't get out from under.
[00:03:09.200]An LRP contract is like a put option
[00:03:12.310]and that it is allows you to participate
[00:03:16.550]in the upside potential in the marketplace
[00:03:19.250]and it also keeps you still subject to basis risk.
[00:03:22.520]The difference between NLRP and a put option is LRP
[00:03:25.470]is an insurance product that's purchased
[00:03:27.120]through a livestock insurance agent.
[00:03:29.390]So instead of paying a premium cost to purchase
[00:03:32.070]the put option through a brokerage firm,
[00:03:34.550]you pay an insurance premium cost to purchase
[00:03:37.420]the RRP insurance contract through an insurance agent.
[00:03:43.070]And a basis contract would be the only one of these tools
[00:03:45.950]that would come in and just control basis risk.
[00:03:49.470]And as such, it does not control that futures price risk
[00:03:53.293]that has to do with the national price fluctuations.
[00:03:56.850]So an example of that would be a contract
[00:03:59.637]with a local buyer for them to purchase your animals
[00:04:03.720]that for example say $5 above
[00:04:06.010]the feeder cattle futures contract on October 20th
[00:04:08.860]or something like that.
[00:04:11.350]And that the futures price will determine
[00:04:13.230]the ultimate price but you've locked in the basis
[00:04:15.490]or the difference from that,
[00:04:16.967]that they're gonna pay you for your animals.
[00:04:23.440]So lets look a marketing example in each
[00:04:25.610]of these different choices and in marketing tools
[00:04:28.930]and see how they might operate.
[00:04:31.400]So here's the examples that we've used in our future present
[00:04:34.040]or previous presentations
[00:04:35.800]and we'll use these here.
[00:04:37.360]We're gonna have an LRP coverage option
[00:04:40.890]that you can has an expected ending value,
[00:04:43.710]165.54 attached to it.
[00:04:46.100]You can lock in a coverage price at the highest level
[00:04:48.790]which is the one that we're gonna entertain
[00:04:50.810]as a choice here at 164.14
[00:04:53.760]and if you do that or cost you $6.92 a hundred weight.
[00:04:58.530]As mentioned in our earlier presentation,
[00:05:00.460]these are net costs for the producer
[00:05:03.110]after the subsidies taken out.
[00:05:04.740]But this is a previous subsidy that was in place
[00:05:07.970]in early part of 2020.
[00:05:10.960]And those subsidies have since been increased quite a bit.
[00:05:14.250]So LRP has become a little bit cheaper,
[00:05:17.640]15 percentage points, cheaper to be exact
[00:05:19.640]in terms of the increase in the subsidy.
[00:05:22.530]Our futures contract choice is to sell
[00:05:25.010]on October feeder cattle contract
[00:05:26.620]at 150.90 per hundred weight.
[00:05:29.480]Remember one of the disadvantages
[00:05:31.020]of feeder cattle contracts and the board of trade
[00:05:33.970]is they are in 50,000 pound increments.
[00:05:36.450]We're gonna do an example
[00:05:37.790]where we are marketing 100 head of 550 pound steer.
[00:05:41.810]So we actually have 55,000 pounds of steers to sell.
[00:05:45.690]So it won't match up perfectly with the futures contract
[00:05:48.987]but that's a choice that we'll have available to us here
[00:05:53.350]as we move forward.
[00:05:55.155]So keep in mind that 5,000 would not be 5,000 pounds
[00:05:57.550]would not be covered by that futures contract
[00:05:59.730]and would not be protected from that futures price risk.
[00:06:03.540]The LRP coverage of course
[00:06:04.910]we can put it in the exact number head and exact weight
[00:06:07.490]and cover the exact amount that we want.
[00:06:10.470]Our put option contract is the first one on the list here
[00:06:13.510]and that as we can by a strike price,
[00:06:15.210]it's as close as we can get to at the money
[00:06:18.130]at $150 a hundred weight and if we choose to do that,
[00:06:20.930]it'll be $6.825 per hundred weight.
[00:06:24.170]So just about 10 cents cheaper than doing the LRP coverage.
[00:06:29.950]Keep in mind the LRP coverage is for steers way one
[00:06:33.170]and the way LRP works is weight tow
[00:06:36.960]is the one that matches up with the futures contract
[00:06:40.570]and weight one is the lighter weight steers
[00:06:42.690]that are less than 600 pounds
[00:06:44.600]and they get a 10% premium boost on them
[00:06:48.220]to the futures contracts at 165.54 represents a 10% increase
[00:06:52.920]from 150.90 in terms of expectations.
[00:06:56.240]So we see how that matches up
[00:06:57.640]and that's why that coverage price looks
[00:06:59.750]a little bit different.
[00:07:03.570]So a question would become which one of these
[00:07:05.960]would you want to choose a futures contract,
[00:07:08.217]I put option or an LRP insurance option
[00:07:11.300]or none of the above if you were looking
[00:07:13.280]at national market protection which would you choose.
[00:07:16.130]When I go out and present this in public,
[00:07:18.200]these are the types of answers that I get,
[00:07:20.150]say there's six people in the audience.
[00:07:22.290]Typically five of the six will say they would do LRP
[00:07:26.450]and one of them would do something like futures
[00:07:28.690]or a put option, okay,
[00:07:30.320]kind of varies which one they choose there
[00:07:32.470]but one of them would play something directly
[00:07:34.210]on the CMA exchange.
[00:07:36.060]Hardly anybody says they would do nothing
[00:07:37.840]to control national market price risk.
[00:07:42.060]The reality is that most producers don't do anything
[00:07:45.880]to control national market price risk.
[00:07:48.160]So cow-calf producers in particular,
[00:07:50.784]they don't do anything along those lines
[00:07:53.080]and in the state of Nebraska, we actually see,
[00:07:55.241]there are a few people actually participate in LRP either.
[00:08:01.460]So while people stake this,
[00:08:03.240]that LRP is very appealing to them,
[00:08:04.900]they aren't exactly buying it up in the number set
[00:08:07.851]that their statements might suggest for some reason
[00:08:11.681]so that's an area that we need to close some gaps on
[00:08:14.820]and help people make better use of these tools
[00:08:17.321]that should be appealing to them
[00:08:19.930]and appear to be appealing to them to use.
[00:08:23.880]On the local market price protection.
[00:08:26.020]Remember, there's two ways to do that.
[00:08:27.460]One of them is to go ahead and enter in that cash contract
[00:08:30.400]that locks in both that futures expectation and the basis,
[00:08:34.240]the other one is to just do a basis contract.
[00:08:36.680]So to match it up with her numbers here,
[00:08:38.780]our private contract offer is to sell our calves
[00:08:42.105]and deliver them on October 20th for 165
[00:08:45.370]which would match up with that expectation
[00:08:47.655]that we saw there for the LRP contract.
[00:08:50.870]And the basis contract would just be to pay $15
[00:08:55.030]above the October feeder cattle contract
[00:08:57.140]on October 20th that two was chosen
[00:09:00.420]to match up with our numbers.
[00:09:03.330]So question of course is would you do a cash contract
[00:09:05.930]or would you just do a basis contract
[00:09:08.250]or would you need do neither and just see what you get
[00:09:10.870]in the local auction market when it comes
[00:09:12.850]to controlling your local market price.
[00:09:17.100]These are the results I typically see when I go out
[00:09:19.450]and ask people these types of questions,
[00:09:22.500]it's kind of a two to one advantage to cash contracts
[00:09:27.240]and auctions over basis.
[00:09:29.351]If I have five people in the room
[00:09:31.190]maybe one person would say,
[00:09:32.730]well, I'm just gonna worry about the basis
[00:09:35.360]as far as controlling local market price.
[00:09:37.500]Usually two out of the five would say,
[00:09:39.770]I'm just gonna see what happens in local auction market,
[00:09:41.760]in other words, you're not gonna control
[00:09:43.160]that basis risk at all.
[00:09:44.760]And then two out of the five would say,
[00:09:46.653]I would go ahead and go a cash contract
[00:09:48.900]and control both the local market risk
[00:09:51.210]and the national market risk and just lock in.
[00:09:53.450]And so I know what I'm selling my animals for.
[00:09:56.620]Most people of course do auction markets
[00:09:59.590]that candles about 2/3 of the cattle here
[00:10:02.580]in the state of Nebraska that are coming off
[00:10:04.750]of cow-calf operations for sale.
[00:10:07.210]So this is a little bit skewed and that not as many people
[00:10:10.795]actually do any kind of contracts to control this risk,
[00:10:14.640]as opposed to those that express interest
[00:10:17.160]and say that they would do it if they could.
[00:10:20.800]So let's take a look at some scenarios really quickly,
[00:10:24.010]we're working off of these example choices
[00:10:26.470]and see what how they would work out depending upon
[00:10:28.670]how the markets move.
[00:10:30.200]So let's start with scenario one
[00:10:32.300]and in scenario one
[00:10:33.480]our October feeder cattle futures contract
[00:10:35.730]settles at 155.
[00:10:38.130]So that 10% boost off of that pushes
[00:10:41.620]our LRP ending value up to 170,
[00:10:44.790]our local price settles at 172.
[00:10:48.040]Now prices went up here on the futures
[00:10:51.250]and an LRP went up right with that.
[00:10:54.240]So none of those tools that we would use
[00:10:56.910]to control futures price risk
[00:10:59.270]would pay back any sort of revenue back to us
[00:11:02.240]and an indemnity or a profit off the board of trade.
[00:11:05.070]So in all cases, we're out what we paid for
[00:11:08.020]the LRP premium $3,800 on the LRP contract,
[00:11:12.440]the put option would be $3,400
[00:11:14.890]so those are the upfront costs that we know going in.
[00:11:17.790]The futures contract would settle out about $4.10
[00:11:21.850]above what we sold.
[00:11:23.420]So if you turn that trade to offset that contract
[00:11:25.810]you'd lose about $2,000?
[00:11:28.460]So because it did go up, we didn't need the protection,
[00:11:33.520]these prices here reflect what we'd have to pay
[00:11:35.880]for that protection.
[00:11:36.750]Keep in mind the LRP and put option.
[00:11:39.000]This is the upper limit that we would actually pay on them,
[00:11:41.810]futures contract even though it looks better in this case,
[00:11:44.750]if this had gone up above the 155
[00:11:48.630]and it could go up quite a bit
[00:11:52.310]and that futures contract would net out
[00:11:54.610]more and more negative as that price increased.
[00:11:57.530]They we're paying for that protection to get us that.
[00:12:00.110]Now that is reflected in our local markets, okay.
[00:12:02.920]So if we look down at how the cash contract,
[00:12:05.170]basis contract and auction markets would have worked out,
[00:12:08.620]if we had a locked in the 165
[00:12:09.923]that would have been the low end of the thing
[00:12:12.640]because we ended up at 172 in the local market,
[00:12:16.350]basis contract netted out a little bit above that
[00:12:18.753]and $93,500 and then our auction market ended up
[00:12:25.970]the best at 94,600.
[00:12:28.670]Why did the auction market turn out better
[00:12:30.480]than the basis contract?
[00:12:31.870]Because our 172 down to 155 represents a $17 basis
[00:12:36.997]and we were only looking at a $15 basis
[00:12:39.580]before when that contract price
[00:12:42.560]or that basis contract was locked into.
[00:12:45.289]So our basis widened in our favor
[00:12:48.630]and the only way we could have captured
[00:12:50.590]that in that local market was by not protecting it.
[00:12:53.530]And so the auction market was the best way to go.
[00:12:56.160]So if we looked at all of these and you say in hindsight,
[00:12:58.680]what should I have done doing an auction
[00:13:01.337]just taking your cattle to the auction market,
[00:13:03.500]doing nothing to protect price risk
[00:13:05.210]was the right thing to do here.
[00:13:06.543]Of course we don't know that going in.
[00:13:08.972]Why did it turn out correct?
[00:13:11.100]Because if futures market went up
[00:13:13.127]and our basis widened in our favor, okay.
[00:13:16.640]And so the auction market turned out best in that case.
[00:13:22.030]Okay, so that's just one situation.
[00:13:24.230]A lot of other things could have occurred though.
[00:13:26.480]We could add prices go down.
[00:13:28.590]If the futures market went down to 144.30,
[00:13:32.500]then those tools that we used in the futures market
[00:13:34.850]would have come into play.
[00:13:35.890]Now if we had known it was going to go down,
[00:13:37.790]we wouldn't expended money on our LRP
[00:13:39.886]or a put option wounded simply sold the futures contract
[00:13:42.600]and turned a profit by buying or selling a contract
[00:13:47.010]at 150 and turning around and buying it back at 144.30
[00:13:51.320]and that would have netted us,
[00:13:53.029]that would have net is $3,300, okay.
[00:13:57.780]The LRP contract because we went down to 158.73,
[00:14:01.390]we had coverage at 164.
[00:14:03.420]We netted in an indemnity payment,
[00:14:06.120]it did not quite cover our premium though.
[00:14:09.630]The put option would also net us a profit
[00:14:12.600]if you remember right or put option
[00:14:14.980]was right to sell at 150.
[00:14:15.813]So we'd net a profit there but again,
[00:14:17.380]we had to pay a premium
[00:14:18.510]for that of over almost $7 a hundred weight
[00:14:22.500]and we didn't quite drop that far in price.
[00:14:25.520]So we didn't quite cover that premium
[00:14:27.160]with our round turn trade off the put option.
[00:14:30.760]The LRP is a little bit more expensive in the sense
[00:14:33.280]that our basis actually tightened up here a little bit
[00:14:37.280]with this in that we're only 158.73.
[00:14:40.130]So you see, we're only about $14.50 above or 40 cents above
[00:14:47.250]where we were before.
[00:14:49.050]So that tighten up just a smidge and that left
[00:14:51.640]with that LRP contract, not quite producing
[00:14:55.820]what we thought it would be
[00:14:58.710]or not losing a little bit more money
[00:15:00.780]than the put option, let's put it that way.
[00:15:03.150]Okay, so the local price so it turned out to be 163
[00:15:07.080]which is also below the 165 that we could have locked in.
[00:15:13.630]So if we look down here below what we have,
[00:15:17.140]the 165 cash contract in turns out to be the best choice
[00:15:22.870]as far as worrying about that local price, $90,750
[00:15:26.280]that would have netted us out the best.
[00:15:28.580]A basis contract would an edit us out 87,615,
[00:15:32.490]going to the local auction and getting that 163
[00:15:35.720]without either one of those would have been 89,650.
[00:15:39.460]So why the auction turned out better?
[00:15:41.370]Again, we had a situation where that basis widened,
[00:15:44.760]the basis contract was for $15 basis,
[00:15:47.250]we ended up with about a $19 basis here between them.
[00:15:50.070]So at wind in our favor.
[00:15:51.590]So again, the auction market turned out better
[00:15:53.370]than the basis contract
[00:15:55.490]but not as good as the cash contract
[00:15:56.843]because we had a decline in the markets overall.
[00:16:01.550]So in this case, I would have wanted to do a cash contract
[00:16:05.140]and no other price protection except for,
[00:16:08.010]well, I shouldn't say that,
[00:16:08.843]I would have done a cash contract
[00:16:10.660]but if I would've known the markets were going to go down
[00:16:12.890]in the future, I'm going to lock that in
[00:16:14.640]and I would have gone ahead and gone into the futures market
[00:16:18.340]and traded a futures contract but keep in mind,
[00:16:21.149]there's $3,300 in the futures market
[00:16:23.180]would have been speculation
[00:16:25.240]because I've actually already locked in my futures price
[00:16:28.000]with this cash contract.
[00:16:33.320]Scenario three, we have a bigger drop in the prices
[00:16:36.930]and a little bit different change
[00:16:38.420]in the basis stuff information.
[00:16:41.080]So because we had a big drop in prices,
[00:16:42.960]all of those futures, market protection tools,
[00:16:47.020]net a profit LRP and put options both in that,
[00:16:50.730]a healthy profit even after I'd take out the premiums
[00:16:53.690]of course a futures contract nets the most
[00:16:55.630]because we don't have to deal with that premium piece.
[00:16:59.900]LRP has about a $13 basis difference here on this
[00:17:04.570]instead of the $15 basis that we had before.
[00:17:08.190]So we ended up netting a little bit more there with the LRP.
[00:17:12.420]The local price at 153,
[00:17:15.970]represents a total revenue here of 84,150.
[00:17:22.010]We could see that once again
[00:17:23.290]that's slightly above a basis contract
[00:17:25.950]because we have a $19 basis here
[00:17:27.660]versus a 15 that two basis contract locked in.
[00:17:30.770]But among those things to deal with the local market,
[00:17:33.050]we've been much better off doing
[00:17:34.290]a cash contract for $90,000.
[00:17:40.620]So this result is very similar to what we saw
[00:17:43.050]on the previous screen except for now our LRP
[00:17:45.860]and put options are in the black
[00:17:49.040]and market scenario four,
[00:17:50.994]we have a price increase up to 168,
[00:17:54.720]a significant increase or your LRP goes up accordingly
[00:17:58.230]to 184.80 and in this case,
[00:18:00.640]our local price ended up being 180.
[00:18:03.950]Okay, so if we look at that in terms
[00:18:06.320]of the LRP futures contracts and put options,
[00:18:09.720]of course we're out the premiums in the case of the LRP
[00:18:11.747]and the put options futures contracts loses
[00:18:14.920]about $8,500 because we sold at 150.90.
[00:18:18.720]Now we've got to buy back at 168.
[00:18:21.580]So we paid for the protection,
[00:18:22.920]we don't need it in future contracts,
[00:18:24.650]it ended up costing us quite a bit more
[00:18:26.940]because we had quite a bit bigger increase
[00:18:29.036]in that price on the futures board of trade.
[00:18:32.634]In terms of the local price or a local auction market
[00:18:36.500]would a net of $99,000
[00:18:38.380]if we had a basis contract though,
[00:18:40.470]were to come out a little bit ahead of that, why?
[00:18:43.020]Because our basis in this case tighten to $12
[00:18:46.420]remember our basis contract was at 15.
[00:18:49.270]So the basis contract here would ended 183 price
[00:18:53.330]versus 180 at the end of the day.
[00:18:55.610]So it slightly outperformed the auction.
[00:18:58.040]Cash contract would have been the worst case scenario
[00:19:00.380]in the local markets because that cash contract
[00:19:03.510]was at 165 which is $15 below what we ended up with there.
[00:19:11.640]So just two more scenarios.
[00:19:13.070]This scenario here assists same thing happening
[00:19:16.586]on the futures markets and LRP.
[00:19:18.240]But instead of that local price being at 180
[00:19:20.800]what if it's at 188 so the top three things
[00:19:24.790]don't change here.
[00:19:25.640]The cash contract doesn't change basis contract
[00:19:27.967]doesn't change, don't have that chance here.
[00:19:30.710]This is now the auction market out performs
[00:19:32.980]the basis contract or the cash contract, why?
[00:19:35.820]Because our basis widened here to $20 a hundred weight
[00:19:39.750]and our basis contract locked it in at 15.
[00:19:42.850]So the auction market would allow us
[00:19:44.580]to receive those benefits of that basis moving in our favor.
[00:19:49.468]And then the last scenario is scenario six,
[00:19:52.640]this is another price drop,
[00:19:55.170]we ended up with a situation where we go down to 134.30,
[00:19:59.607]LRP drops with that.
[00:20:01.067]Our local price though is at 144
[00:20:04.082]which represents a $10 basis
[00:20:06.460]so we see that basis actually tighten up.
[00:20:09.990]So locking in that basis contract again,
[00:20:12.760]would pay in this situation $15.
[00:20:15.580]So we receive an extra $5 a hundred weight.
[00:20:18.150]We'd be up here at 139.30,
[00:20:20.438]sorry, we'd be up at 149.30, sorry,
[00:20:28.170]looking at the wrong number.
[00:20:30.750]So our basis contract would come out better
[00:20:33.222]but the three things we could done there,
[00:20:35.870]the one thing we wish we would have done
[00:20:37.390]as a $90,000 cash contract.
[00:20:40.240]Okay, so that brings us to taking a look at all six
[00:20:44.680]of those different scenarios.
[00:20:46.110]It's a combination of these things that actually works.
[00:20:49.440]Keep in mind, you can do a basis contract
[00:20:51.670]in combination with these first three items here.
[00:20:55.510]So a basis contract here with a futures contract,
[00:20:59.510]we will have looked at about $90,400.
[00:21:02.590]So very similar to a cash contract in that case,
[00:21:06.920]just slight differences there in terms of what
[00:21:08.770]the basis was actually versus the 150.90
[00:21:14.230]that was on there and the board of trade offer
[00:21:18.230]for that futures contract.
[00:21:20.430]So there's a little bit of fudge difference there
[00:21:22.597]but a few pennies.
[00:21:24.350]So you can use that in combination
[00:21:25.930]if you absolutely knew all this stuff
[00:21:27.540]was gonna work that way of course a cash contract
[00:21:30.400]would have been the way to go
[00:21:31.820]but you don't know if these prices
[00:21:33.330]are gonna go up or down.
[00:21:34.590]You don't know if the basis is gonna work
[00:21:36.220]in your favor or not.
[00:21:38.370]Of course, in this case,
[00:21:39.360]the basis did not work in our favor.
[00:21:41.640]Our local price is only $10 above,
[00:21:44.000]we could have locked in a $15 difference here
[00:21:47.720]and made that work.
[00:21:50.160]In some cases where this actual basis worked completely
[00:21:54.300]in our favor with the 15 or increase whatnot cash contract
[00:21:59.100]of course would not allow neither
[00:22:00.310]one of these would allow us to work with that
[00:22:02.160]so auction markets look better.
[00:22:04.268]Nobody has a full crystal ball,
[00:22:08.580]nobody knows exactly what's gonna happen
[00:22:10.410]with all these relationships
[00:22:12.110]but it's important to understand what types of risks
[00:22:15.130]you are protecting.
[00:22:16.880]So when you do a cash contract in generally,
[00:22:18.980]you do not need to worry about the board of trade stuff.
[00:22:22.550]So LRP futures contract put options
[00:22:24.690]become a kind of a viewpoint as does a basis contract.
[00:22:29.070]And of course the cash contract you're gonna deliver on.
[00:22:30.920]So you're not participating in the auction market.
[00:22:33.880]On the other hand, if you choose to just go to the auction
[00:22:36.420]with your cattle, then you're accepting
[00:22:39.530]a whole bunch of risks there,
[00:22:41.990]you can either try to get some control
[00:22:45.720]of the futures price risk by participating
[00:22:47.970]in either LRP futures contract or put option or not
[00:22:53.180]or you can just let it go to the auction market.
[00:22:55.670]You can also enter into a private contract
[00:22:58.140]to deliver with a basis contract
[00:23:00.870]and then make that same decision
[00:23:02.580]whether you wanna control the other part of that equation
[00:23:05.990]by going to the board of trade
[00:23:07.380]and use an LRP futures contract to put options
[00:23:10.020]to control that part of the risk.
[00:23:11.970]All of this needs to be coupled with what price,
[00:23:15.080]what revenue goals you need to try to reach here
[00:23:17.860]in order to make money and cover your expenses
[00:23:21.090]and how much risk you're willing to take
[00:23:23.810]and how much downside risk you view in the market
[00:23:26.610]versus upside risk and which tools match that the best.
[00:23:30.330]If you see a lot of upside in the marketplace,
[00:23:34.790]you wouldn't wanna lock in a futures contract,
[00:23:36.750]you wouldn't want to be locking in a cash contract
[00:23:40.043]because that would not allow you to participate
[00:23:42.660]in that upside market on a national basis
[00:23:46.190]if the upside risk is in the national market price.
[00:23:50.640]The same thing with the basis contract.
[00:23:52.600]If you see the potential for that move in your favor,
[00:23:56.329]you don't wanna do a basis con basis contract,
[00:23:59.616]you don't wanna do a cash contract
[00:24:00.960]'cause both of those lock-in that basis
[00:24:02.920]at current expectations.
[00:24:04.600]And if you expect that to move in your favor,
[00:24:06.440]then you would not wanna do that.
[00:24:08.530]Opposite is true, if you think you've got
[00:24:10.750]a good basis sitting out there
[00:24:13.720]and you wanna go ahead and lock it in
[00:24:15.780]and control that risk both of those tools will do it.
[00:24:19.230]The difference between which one you wanna use
[00:24:21.050]would be dependent upon what you think
[00:24:23.120]could possibly happen in the futures market
[00:24:25.920]'cause if you think the futures market to move up
[00:24:27.880]and you've got a favorable basis,
[00:24:29.820]lock in the basis and wait and see what happens
[00:24:32.240]in the futures market and what you want to do there
[00:24:34.890]if you just wanna participate in the upside
[00:24:37.440]but still control the downside of that futures market LRP
[00:24:40.770]or put option would help you do that.
[00:24:42.936]So hopefully this has been a useful exercise
[00:24:46.700]for you to see what some of these tools are
[00:24:48.770]and how they might work,
[00:24:50.540]you wanna run the numbers on your own situation
[00:24:52.890]and see where you're at revenue wise
[00:24:55.190]in terms of expectations and how where the risk lies
[00:24:58.959]and how much of that revenue you need to protect
[00:25:01.670]and whether you need to protect it in the futures component
[00:25:04.700]or the national price risk
[00:25:06.380]or whether you need to control it locally
[00:25:08.649]with that basis risk protection tools.
[00:25:12.580]So with that, I'm gonna go ahead
[00:25:13.507]and thank you for bearing with me
[00:25:15.950]through these livestock marketing webinars.
[00:25:18.670]I hope you enjoyed them,
[00:25:20.120]please let me know if you have any questions at all,
[00:25:22.760]thank you.

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Livestock Marketing - Understanding Marketing Outcomes

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