 |
|
Issue 29 |
|
|
||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
|
|
Prairie Grains is the official publication of the Minnesota Association of Wheat Growers, North Dakota Grain Growers Association, South Dakota Wheat, Inc. and the Minnesota Barley Growers Assocation. |
|
|
Copyright |
|
|
||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
 |
|||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
The three "destructions" of wheat, corn, and beans Traders watch three critical crop stages most each growing season By Scott Barrie I remember the comments of a veteran grain trader not long after I joined the MidAm Exchange in
Chicago. "Every year we worry about planting, pollination, and harvest," said the grain trade vet, who used opera glasses to get a better view of the futures board from the trading pit, due to his failing eye
sight. "We wreck these crops three times each year." It's some of the greatest wisdom I've ever heard, at least from the paper end of grain trading. Price swings in annually-produced commodities,
especially when supplies are tight, tend to be exaggerated when the crop is vulnerable to damage. The exaggerations of price are often referred to as building a "risk premium" into the crop. When a crop is
feared to be in limited supply, prices tend to rise to spread out supply. Thus, annually-produced commodities tend to go through cycles of building and destroying risk premium as the crop goes through its
various stages of production. That's because buyers or consumers fear limited supply, and producers have an economic motive to withhold supply from the market place. So during potentially tight supply times, consumers
tend to pay higher prices for fear of not being able secure supply, while producers must be encouraged to sell at these higher prices to satisfy their profit motive. However, as the consumers meet their current
demand needs, they tend to be motivated to find alternate sources of supply or will use other products in substitution, while producers fear missing the higher prices and tend to open the flood gates of supply. As such,
when the crop is in danger of potential damage, fear grips the consumer and greed the producer. Prices then rise as the marketplace builds the risk premium into the crop to ensure supply at a later date. The first
"destruction" of a crop tends to occur just prior to planting and into early planting. Either the weather for planting is too hot, too cold, too dry or too wet, and the marketplace begins to fear that this year's
crops will not be planted. As such, new crop supply is no longer assured, and the price of the commodity tends to rise. Table 1 shows the typical national average planting months for specific grain markets (December
contracts used for all except soybeans, where the November contract was used) versus the rest of the year.
As Table 1 illustrates, field crops tend to rise going into planting. All of the commodities in question tend to increase in value, as the marketplace
begins to appreciate all that can go wrong with the coming crop. After all, nothing can grow without first being planted, so planting must go smoothly
for the crop to develop to its full potential. Since this is the first step in the new production of grains, it is the point when the crop is the most
vulnerable to damage, and hence prices tend to factor in a "risk premium" to help ensure that grain is rationed throughout the year. The second "destruction" of the crop comes during pollination. Crops
must pollinate in order to produce grain (seed, beans, ears, etc). Pollination requires certain environmental conditions, and extremes in temperature or precipitation can cause yield damage. Thus, given the risk
of pollination and its far reaching impact on yields, the marketplace tends to build a "risk premium" into the price of grains ahead of pollination.
Table 2 shows the typical national average pollination months for specific grain markets (December contracts used for all except soybeans, where the November contract was used) versus the rest of the year.
As Table 2 illustrates, grain futures tend to rally going into pollination. However, as this milestone is crossed and supply becomes more certain, prices fall. The final obstacle is harvest. This third and final destruction of the grain crop occurs as traders, producers, and consumers worry that conditions are not hospitable for harvest and hence harvest will be delayed and yield will suffer.
Table 3 shows the typical national average harvest months for specific grain markets (December contracts used for all except soybeans, where the November contract was used) versus the rest of the year. Again, it is clear that the market has historically rallied going into harvest and harvest preparation, as the marketplace increases the price to discount the likelihood of yield diminishing delays in the crop. As the crop matures and supply looks more probable in the future, the producer now removes the risk premium from the market. There is fear of missing the attractive higher prices of selling their product to consumers who have now met their demand with alternate sources and supplies. Hence, as a crop goes through its natural planting, maturating, and harvesting cycle, the risk premium is built and destroyed depending upon the forces of nature as well as the emotional forces of fear and greed in the markets. When the crop is vulnerable to damage, prices are strong as the price of the grains must reflect the probability of the crop being destroyed.
Table 4 shows the monthly cumulative change in grain prices versus the non "destruction" months. It clearly illustrates the fact that the marketplace builds a "risk premium" associated with the three "destructions" of grain crops each year. This process of building and removing of risk premiums is key to understanding the rationality of grain prices. Because fear and greed are important in building and removing of risk premiums, markets tend to move much farther than would be thought, and can stay at emotional levels longer than most people would anticipate. It is this factor which makes the markets, especially grains, difficult to analyze since they are constantly being buoyed by this "irrational exuberance," as the Federal Reserve chairman once put it. Barrie is head of market research and VP of operations at the Oregon-based Great Pacific Trading Company. He maintains a website called Grainguide, at www. grainguide.com, established to give grain futures and options traders (both speculators and hedgers) a resource dedicated to quality grain market research specifically about the grain futures segment of the commodity futures markets.Although timely, appropriate grain marketing strategies may be profitable, these strategies involve risk, and Prairie Grains nor sources cited assume liability for their use.
"Taming the Bulls and Bears" is a market education feature of Prairie Grains, made possible by the Minnesota wheat checkoff managed by the Minnesota Wheat Council. If you have a question or topic you'd like to see addressed in this feature, send it to: Prairie Grains, 2600 wheat drive, Red Lake Falls, MN, 56750. Email: mnwheat@gvtel.com. |
|||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
