Ed’s World

Questions and Answers About Grain Marketing

What’s a “Courage Call?”

Question: What’s a “courage call?” And do you recommend using it?

Ed replies: A courage call is a call option purchased for the sole purpose of giving a producer the “courage” to make a grain sale. I hear of them most often in reference to a new crop sale before harvest. There are many “what ifs” in making a pre-harvest grain sale, such as “What if I don’t have a crop to deliver?” or “What if prices surge higher?” I think that crop revenue insurance (CRC or RA with the harvest price option) are designed to deal with these “what ifs.” But for some producers these “what ifs” are strong enough to compel them to buy a call option – the right to own futures – to give them courage to make a pre-harvest sale.

Do I recommend them? That’s a good question that deserves a thoughtful response. Let’s consider the situation/opportunity for a pre-harvest sale of 2006 new crop corn, trading at $2.48 per bushel. Considering the price levels reached at harvest in the December ‘04 & ‘05 contract ($2 or less), $2.48 appears to be a pretty good spot to initiate some new crop pricing. Let’s do a little math on this opportunity. Assume I make this sale but insist on “re-owning” the grain with a courage call. If my new crop basis at harvest is 45 under and the $2.50 call costs 20 cents, I will lock in a new crop price of $2.48 - $0.45 basis - $0.20 premium = $1.83.

Congratulations! You just discovered a fancy way to lock in a minimum price with call options equal to your loan rate. The irony, of course, is that you need not do anything to lock in your loan rate. You can sleep until noon everyday and still get the loan rate. My point is that I don’t see much value in the use of courage calls when new crop sales opportunities are close to loan value.

Where I can see value in courage calls is the situation where you have priced your insured bushels and the market shows a great new crop pricing opportunity that is well above the loan rate, even after subtracting the cost of a call option.

Do courage calls add value to your marketing? Dr. Robert Wisner of Iowa State University has written some compelling research on the value of per-harvest marketing (see “Pre-harvest Marketing Strategies Increase Net Returns for Corn and Soybean Growers” at www.econ.iastate.edu/agrisk/module/mod14rae.htm ). He and his co-authors, Neal Blue and Dean Baldwin of Ohio State University, showed that a pre-harvest marketing strategy of forward contracting in the spring and “re-owning” with a call showed a better result over time than simple harvest sales.

In 1999 Dr. Wisner shared these results with Minnesota producers at a Master Marketer Program in Mankato. After the presentation, a producer asked Dr. Wisner a simple question that led to an interesting exchange (I am paraphrasing from memory).

Producer: “Dr. Wisner, what happens to the returns in your study if the producer forward contracts in the spring and DOES NOT buy a call option?”

Dr. Wisner: “In that case, the producer would make even more money.”

Producer: “Then why, in this study, do you have the producer buy the call?”

Dr. Wisner: “Because it is our experience in Iowa that buying the call is what gives a producer the courage to do what they should be doing anyway, which is getting some grain sold in the spring, long before harvest.”

If purchasing a call option is the only way to get a producer to make a pre-harvest sale, then I must admit there is value in a courage call.

Usset is grain marketing specialist for the University of Minnesota Center for Farm Financial Management. See other questions and answers about grain marketing at “Ed’s World” online: www.cffm.umn.edu/publications/edsworld.aspx. Email your own grain marketing question to Usset at usset001@umn.edu.  Usset also formulates model marketing plans and simulated sales for corn, wheat and soybeans.  His pre-harvest plans for 2006 (PDFs) can be found online at www.cffm.umn.edu/publications/mktplans.aspx.