| January 18, 2008 | Archived Issues |
I Don't Know!
How high will prices go? With corn, soybean and wheat prices well above the USDA's projected price ranges, market analysts are becoming more likely to answer with, "I don't know how high prices will go."
Wheat futures prices, and now soybean futures prices, have moved above previous record highs. The 1973 soybean price high of $12.90 was exceeded with prices above $13.00, which finally produced "beans in the teens!" Corn is not far behind. Corn prices above $5.00 are poised to make a run at or exceed the 1996 high of $5.54 1/2.
At current price levels, analysts have little historic information to base price forecasts on. The supply/demand factors and resulting crop carryovers, when compared with previous years, do not necessarily support prices at these levels. Technical analysis is also difficult because previous highs have been exceeded and upside resistance or price goals cannot be based on price history. There are a number of higher prices sometimes mentioned, such as $15.00 soybean prices or $6.00 corn, but these projections are nearly always accompanied with qualifiers like ‘potential', ‘possible' or ‘maybe'. The bottom line is that prices have exceeded most expectations and no one really knows how much higher they may go.
Part of the difficulty in looking at prices is there are other questions that have not or cannot be answered either.
Among other difficult questions is: Can demand be maintained at these prices? So far, the answer seems to be, Yes! The USDA's January 11, 2007 Grain Stocks report indicates that use remains strong. While feed cost is stressing the livestock industry, the stocks report suggests that feed use is strong and the USDA increased projected 2007-08 corn feed use. World grain and oilseed supplies are tight and, with the weak dollar, export demand has remained strong. Last week's (ending January 10, 2008) export sales for corn, soybeans and wheat were above trade expectations and well above the pace needed to meet USDA export projections. Expensive soy oil prices are squeezing biodiesel production, but ethanol production is expected to grow as plants under construction come on-line. However, "red ink" in the livestock industry, narrower biofuel margins and high-priced exports seem likely to eventually slow demand. So the real question may not be if demand can be maintained, but at what price and when will use begin to slow?
Will there be enough acres in 2008? Ending 2007-08 stocks estimates for corn and soybeans continue to shrink. Earlier projections of almost 2.0 billion bushels of corn carryover and tight soybean stocks slipping to near 200 million bushels suggested an acreage shift from corn to soybeans in 2008. More soybean production is needed to rebuild supplies. This is further supported by the USDA's latest projection of only 175 million bushels of soybean carryover.
The expected corn carryover situation is changing rapidly as well. Almost as much corn will be used as was produced. In 2007 farmers produced just over 13.0 billion bushels of corn from 93.6 million planted acres. Corn use for 2007-08 is projected at just under 13.0 billion bushels. The USDA's latest estimates now project 2007-08 corn ending stocks at just over 1.4 billion bushels, well below the earlier estimates of nearly 2.0 billion bushels. Demand is expected to continue growing in 2008-09, which will require more corn in the year ahead.
In order to maintain corn supplies, it means that corn acres cannot shift to soybeans! Yet more soybean acres are needed to relieve a tight supply situation. Adding to the acreage competition mix is less than expected winter wheat seedings and US wheat carryover at 60-year lows. This competition or market "bidding for acres" is another major factor is driving prices higher.
South American production prospects also add to production and supply worries for the year ahead. Dry weather in Argentina may reduce production for the world's second largest corn exporter. Earlier projections of Brazilian soybean production of 63 mmt have now been trimmed to 60 mmt and many believe it may be cut to about 58 mmt. With tight world grain/oilseed supplies, this adds to market concerns about US 2008 acreage and crop production.
If no one knows where prices are going, what should you do about selling? To begin with, recognize that current prices offer better profits than most everyone ever imagined! Selling decisions are not easy, but selling old crop production or forward contracting new crop production at current prices captures very good returns. It is also very unlikely that you can sell at the market high because no one knows what it might be, when it may occur and it will likely be history before it can be positively identified. Current prices remain in strong technical uptrends, suggesting higher price potential. But current old crop prices are well above projected price ranges based on fundamental supply/demand data, which suggests considerable downside price risk exists as well. Prices are also becoming more volatile with double digit moves up and down within the same trading day for some futures contracts, a situation that sometimes signals an approaching change in market direction.
Adding to sales as price move upward is another time-tested strategy to make sales. Incremental sales at ever higher prices captures profitable prices on the way up, increases the average price as prices rise and insures that grain is sold before prices break. The problem with this strategy in rapidly moving markets that exceed previous price expectations is that, if you have been too aggressive, you may run out of anything to sell well before the market peaks. This is not necessarily bad if your sales have generated good profits, but it is always disappointing to miss out on higher prices.
Re-owning sold grain with futures or options is one strategy that may be used to capture higher prices after the cash grain has been sold. However, understand that this is a speculative strategy of expecting higher prices in a volatile market. It also results in expensive option premium (cost) outlays in volatile markets or it may involve significant margin deposits if futures contracts are used to re-own grain.
Following the trend upward and then making sales when technical signals suggest the trend appears to be changing is another possible strategy. This delays sales until a market signal (broken trend, penetration of moving averages, etc.) is triggered. A similar strategy is to use downside price targets or "price traps" set below current prices. As prices rise the trap price is increased until a break in prices triggers sales at a trap price. However, these types of strategies require following the markets closely and strict discipline in making sales when market signals suggest selling. Limit down moves in the futures market may also trigger sales significantly lower than the intended price trap.
Put options or various option spread strategies can also work, but premiums are expensive. The premium cost often results in considerable cash outlay and produces protected price floors well below current prices. However, in most cases these still represent profitable prices. The price floor protects these profitable prices and it is still possible to sell the cash grain at higher prices if the uptrend continues. Other strategies such as an option "fence" (buying a put option and selling a call) or "vertical" option strategies (buying an at-the-money option and selling an out-of-the-money option) may reduce premium cost and offer price protection opportunities as well. Be aware that some of these multiple option strategies may require margin deposits and significant cash flow drains if the markets move more than expected.
How high will prices go? "I don't know" is probably the best answer and anything else is speculation. The potential for higher prices exist, but downside price risk is present as well. It seems hard to go wrong selling at current prices, but selling decisions are never easy in volatile markets. While no strategy is perfect and getting the market high is not a reasonable goal, a variety of market tools can be used to mange price risk and avoid missing out on good prices in uncertain markets.