Following Up On Market Signals to Store

It has been an amazing production year. Record average U.S. soybean yield, second largest total soybean production, and second largest corn production. All of this was produced with a summer drought in the heart of the Corn Belt! Typical of large production years, futures prices declined into harvest and discouraged sales. At the same time, somewhat higher futures prices for deferred months suggested possible storage returns (carry) for distant months' deliveries. Transportation disruptions caused by hurricanes and high fuel prices resulted in very weak basis, depressing cash prices even more and further discouraged cash sales. The markets were sending signals to store corn/soybean crops. Now that the crops are in storage, what will it take to get storage returns?

USDA's November supply/demand estimates provided more disappointing news for those looking for higher prices. Although demand is strong, large corn and soybean crops are expected to result in the largest carryovers of both crops in more than fifteen years! USDA projects U.S. average farm corn prices ranging from $1.60 to $2.00 and soybean prices from $4.95 to $5.75. Assuming normal basis levels, recent March 2006 corn and soybean futures prices translate into late winter cash prices that are near the upper end of USDA's currently projected price ranges. At these price levels, without new or unexpected market news, significantly higher prices do not appear likely. This suggests that storage returns will depend upon some combination of capturing market carry, basis gains, and managing the LDP (loan deficiency payment).

Soybean storage returns appear to be largely dependent on basis strength.. The carry or storage premium for March 2006 soybean futures has been about eight cents per bushel above the January futures price. Storage costs for holding soybeans into early 2006 (January-February) will generally be somewhere between eighteen and thirty cents per bushel, considerably more than the carry offered by the March futures contract. This means that higher prices or capturing basis gains will be necessary in order to achieve storage returns.

Typically soybean basis strengthens (spread between cash and futures prices narrows) following harvest. This is beginning to occur as river transportation returns to normal, cash deliveries slow as harvest is completed, and users begin to bid for soybeans to meet crush/export demand needs. However, this year basis recovery is uneven, with producers in some areas still faced with dismal prices.

Soybean cash prices vary by fifty cents, or more, per bushel across Missouri reflecting sharp basis differences. Soybean basis in southeast Missouri and along the Mississippi River has strengthened by more than fifty cents per bushel from the price lows at the beginning of harvest and following river transportation disruptions from the hurricanes. This basis strength has already offered producers in these areas significant price gains on soybeans stored at harvest. In contrast, producers in other areas of the state (especially in northwest Missouri) have seen little price gain and at many locations basis remains much weaker than average. Those with stored soybeans in these areas may be disappointed or have to wait longer to capture storage gains. However, these sharp basis differences may allow some producers with on-farm storage and semi-trucks to capture basis/storage gains by delivering soybeans to distant locations that are offering much better prices.

Historical seasonal soybean price patterns suggest prices usually trend higher into spring, and production problems in South America, along with stronger than expected demand, could lead to higher soybean prices. However, storing soybeans in hopes of higher futures prices is risky and long term storage costs may be difficult to recover. The USDA 2005-06 expected soybean carryover of 350 million bushels, the possibility of increased 2006 soybean acreage (due to acreage shifts because of high fuel and fertilizer input costs of producing corn), disappointing export pace, and large world soybean supplies suggest significantly higher soybean prices are not likely. Downside price risk may be limited for awhile, due to production risk in South America. The government loan program or LDP also offers some potential downside price protection. But, with limited prospects for significantly higher prices, capturing basis gains and the limited market carry appears to be more reasonable objectives for soybean storage returns.

Low harvest time corn prices may contribute to marketing opportunities.. Harvest pressure and transportation disruptions resulted in weak basis and low cash prices for corn. The depressed corn prices have triggered LDPs in the forty to fifty cent per bushel range, which many producers have claimed. While claiming the LDP removes the downside price protection offered by the loan program, it offers the opportunity to enhance prices if basis continues to recover as expected following harvest completion.

Similar to the variable soybean basis situation, cash corn prices in southeast Missouri and along the Mississippi River have recovered dramatically to near normal levels and suggest that a significant amount of basis gain has already occurred in these areas. Corn basis also is showing signs of recovery at other locations as harvest winds down. However, basis history suggests additional basis strengthening of five to twenty cents (or more) is still possible at many locations.

Distant month corn futures prices also have offered storage premiums. March 2006 futures prices have offered a carry of 14 cents per bushel over December 2005 futures prices. May and July corn futures also have offered storage returns, with 28 cents carry offered in July futures prices. These market carries alone almost cover costs for storing corn into the late winter, spring, or early summer months.

Some market advisors have strongly advised producers to "lock-in" this market carry for corn. This may be a good suggestion, but unfortunately it is not always easy to do. A quick review of a few postings of cash bids for January delivery indicated very few offers that included all of the futures market carry. Additionally, forward contracting also would give up additional basis gains in most cases. Put option premiums would "eat up" a sizeable portion of the carry, so this doesn't seem to be a good alternative either. This leaves a futures hedge as about the only alternative to "lock-in" the carry. However, given the amount of carry in the market, using a futures hedge on a portion of stored corn might be a good alternative for protecting the carry and still being able to capture potential basis strength.

What about higher prices? The seasonal corn price trend tends to be lower as the calendar year ends and then usually turns higher into early spring. However, the burdensome corn carryover is likely to keep a lid on prices. This suggests that, if the LDP has been claimed, basis gain and market carry offer the best chance for additional returns. After these have been captured, there is little current market incentive to continue storing corn.

Will Weather Come Back Into the Markets?

• Some hot temperatures did occur, especially in Missouri and Illinois, but it was not oppressively hot in August and there were not any extremely hot temperatures in the western Corn Belt.
• The crop was planted timely: 95% of the corn was planted by May 22nd, 7% ahead of the 5-year average.
• Most of the Midwestern states started the year with adequate to surplus moisture. The dryer western Corn Belt states received rain when the dry conditions were occurring in Missouri and Illinois.
• Corn roots tapped into soil moisture and pulled it from 5 to 6 feet deep in the soil, maybe deeper.
• The first tropical storms brought some timely rains to the eastern Corn Belt. Later storms pulled moisture away, leading to ideal crop maturity and harvest conditions.

Most of the summer drought area, along with a significant portion of the western Corn Belt, is going into winter with dry soil conditions. If the soils are not replenished before next spring, the 2006 crop year will begin with less soil moisture than in 2005. At this point, growing conditions in South America also are less than ideal. This leaves major world production areas that are vulnerable to weather conditions that might cause market reactions.

Caution: this does not suggest making marketing plans based on the potential for weather market rallies.With the expected large crop carryovers, that's not good marketing, it's just "betting on the weather." It is too early to tell when weather may come back into the markets. It does, however, suggest that weather risks are still present (even with improved crop genetics) and could provide market surprises sometime in the future. Marketing plans should always have flexibility or "what if I'm wrong" strategies for when the markets react to unexpected changes in supply expectations. Next year's crop marketing plans should begin with assumptions of normal weather, then a variety of marketing tools (options, minimum price contracts, crop insurance, etc.) can provide flexibility and be used if weather "moves to the front burner" in 2006.