FUTURES AND OPTIONS MARKETS, BASIS, AND THE TIMING OF GRAIN SALES IN MONTANA

The performance of the grain transportation industry, historically low real grain prices, and decreasing government support for grain prices have renewed interest in local grain prices and shipping costs. An understanding of the relationship between local cash prices and futures prices is an important part of minimizing the price risk associated with growing and merchandising grain. The ability to recognize the seasonal patterns between these prices offers improved profit potential for marketing grain. A Montana producer's decision of when and how to market his/her crop can have a great impact on net profit. Farm managers can use cash sales at or after harvest, forward contracting with a local grain elevator, or hedging with the use of futures and options contracts. To best select between these tools, the producer must be able to interpret different price quotes in order to determine the equivalence in terms of time, place, and quality. Being able to compare the different pricing alternatives at any given time allows the producer to decide which method provides the greatest return. The local basis is the difference between the local cash price for hard red spring wheat and the current price for the relevant futures contract (usually the Minneapolis contract). By understanding the local basis, the producer can compare futures prices with cash and forward contract price quotes. There are large seasonal patterns in the basis for Montana spring wheat. These seasonal patterns primarily reflect changes in the demands placed on the transportation and handling system. The local cash value of spring wheat is effectively determined by the basis (which reflects freight and quality adjustments) and wheat futures prices. Futures exchanges provide a standardized price for a specific location, delivery time, and quality. The futures contract price gives buyers and sellers a well-known price based on the standards of the futures contract. Grain buyers and sellers can then use this standardized futures price as a base, adding quality premiums and subtracting transportation costs to price different grades of hard red spring at various locations. Besides qualitative differences, the wheat basis in Montana reflects arbitrage of wheat between different locations. The Pacific Northwest export market will normally provide the highest values for Montana spring wheat, so Montana merchandisers tend to price from Portland quotes. However, this Portland price for hard red spring wheat will reflect the Minneapolis Grain Exchange futures prices plus a transportation premium plus/minus any quality adjustments; prices will adjust to reflect all transportation costs and quality differences. This adjustment allows Northern Plains producers to use these centralized futures markets as pricing instruments, even though their wheat may move to other locations. The structure of freight pricing is critical for the movement of grain to Pacific Northwest ports and the prices received by Montana farmers. Freight rates from these Montana locations to Portland have been stable in real terms (adjusted for inflation) over the past ten years, whereas other components of the basis have shown considerable seasonal variability. The problem with Montana's freight rate stability over time is that other spring wheat growing areas with more effective grain transportation options have seen declining real freight prices. Understanding historical basis requires knowledge of the factors that influence the basis. This knowledge can be as important as knowing the cost of producing spring wheat. The first step in keeping historical basis information is to record the local cash price of spring wheat. Daily cash price quotes are available at the local grain elevator. Two useful Web sites are: (1) Montana Grain Growers Association (portions require a subscription), which provides current price and basis information at: (www.montanamarketmanager.org) and (2) USDA's Agricultural Marketing Service (www.ams.usda.gov/lsg/mncs/index.htm), which provides daily prices and weekly summaries for grains and other agricultural commodities. Also, the Montana Wheat and Barley Committee compiles historical price and basis information for specific state locations and the Montana Agricultural Statistics Service's annual publications give state average prices received for grains and livestock on a monthly basis. For further information contact David Buschena in the Department of Agricultural Economics and Economics at 406-994-5623 or e-mail him at buschena@montana.edu.


Subject(s):
Issue Date:
2000
Publication Type:
Working or Discussion Paper
PURL Identifier:
http://purl.umn.edu/29176
Total Pages:
18
JEL Codes:
Q1
Series Statement:
Special Report 4




 Record created 2017-04-01, last modified 2017-08-24

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