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A Sneaky Five Letter Word – Basis The job of the futures market is to predict the future value of the crop, but the job of the basis is to adjust that price for demand today. By Betsy Jensen While it is wonderful to see such high futures prices for wheat, corn and soybeans, there’s a sneaky five letter word always lurking in the background which affects a grain farmer’s actual price – the basis. Large price swings in the futures prices are anticipated, but it is the large swings in basis that caught most farmers, and grain buyers, off guard in 2007. Basis is the difference between the futures price, and your local cash price. Most often basis in the Northern Plains is a negative number, such as 15 cents under the futures or even $2 under, as we have seen in soybeans during 2007. In textbook terms, the basis reflects the handling charges by the buyer, transportation costs to the end user and availability of storage. Spring wheat at an export terminal in the Pacific Northwest is worth more than wheat sitting in your bin in Mott, N.D. Since there is only one futures market for spring wheat, it is the job of basis to equalize those prices. Farming never follows the textbook rules, so the textbook definition does not give you the full story. My definition of basis is much simpler: Today. Basis reflects what is happening today at this specific elevator, mill, ethanol plant or wherever you deliver your crop. The job of the futures market is to predict the future value of the crop, but the job of the basis is to adjust that price for demand today. Todd Dravland, general manager of Markit County Grain in Argyle, Minn., says that during the summer, soybean basis offers differed by as much as fifty cents from elevator to elevator, and Dravland explained it all had to do with an elevator’s risk tolerance. “Soybean basis was actually at a no-bid this summer and elevators were trying to determine their risk for basis because there was absolutely no export basis bids out there whatsoever.” Elevators serve as middle-men between end users and producers, but this summer the end users of soybeans disappeared, even while the futures prices were rallying because of bullish weather forecasts. There was no need for cash soybeans, but the futures market was rallying in anticipation of a future need for soybeans. So there was a disparity in signals between cash and futures prices, reflected in the basis. Before you begin to think of basis as a bad thing that takes away from the price, remember that basis can be a positive number, even in the Northern Plains. During 2005, basis on spring wheat became positive at many elevators. Instead of quoting prices of 30 under the futures, many elevators were quoting 30 over. In this scenario, the cash market was more bullish than the futures, and in order to attract bushels, basis became positive. Don Carlson, commodity manager at Bushmills Ethanol in Atwater, Minn., is buying corn at the final destination, which makes his corn buying a little different from an elevator. He compares basis to a valve in a pipeline. “To turn on the valve and get the grain flowing, strengthen the basis. A weakening basis will slow grain flows by turning off the valve. Basis is what allows an end user to signal sellers when they need or don’t need more grain.” As farmers battle each other for land rent, grain buyers must battle each other for bushels, and basis is often that battlefield. “In this global market we are competing locally with elevators who will sell to other end users or exporters,” says Carlson. Despite the fact that he is buying for an end user, the job is not easy when those bushels could end up at a neighboring elevator, ultimately headed for Japan. A grain buyer cannot manipulate futures prices, but you can use the basis to improve cash prices, and attract more bushels to your facility. “As soon as you start paying more, you get more,” says Carlson. Will basis get better or worse? Despite the fact that he is a buyer, and not a seller, Carlson’s words of advice can apply to farmers as well. “I have always said it doesn’t matter what the price of the corn is coming across the scale, as that price is determined by risk management using a combination of futures, basis, and cash purchases.” The same tools that buyers use, are also available to farmers for risk management. One of the best experts on basis is your local elevator manager. He or she can offer advice on historical basis levels, and insight on what is happening in the cash markets. Basis is how buyers adjust a future price into a “today price.” It can be frustrating because there are often two distinct sets of fundamental factors that move futures prices and basis levels, often in opposite directions. When you review your marketing plan, make sure that the marketing plan includes not only futures prices, but basis levels as well. Ultimately, it is the cash price you receive that matters. # # # Online sources for basis information SDSU Grain Market Info: Click on corn, soybean, wheat links, then scroll down and click on links to cash price and basis charts -- U of M basis charts for selected MN locations -- ND Grain Growers -- PNW basis charts (updated weekly) –- members-only for the Montana Grain Growers Association and Montana Stockgrowers Association -- www.montanamarketmanager.org Basis for Selected ND Crops Publication (Excellent basis backgrounder) -- www.ag.ndsu.nodak.edu/aginfo/cropmkt/pubs.htm - see ‘Basis for Selected North Dakota Crops’ (EC-1011, 2003) National Ag Risk Library. Click on “Ag Risk Library,” then under ‘Price’ scroll down and click on “basis” or “basis contracts.” |
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