UK – Creating a UK futures market could have a critical role in the long term success of UK dairy farms, the Total Dairy Seminar heard yesterday.
Small market windows of extreme highs and lows are what hurt farm profits the most, explained Dr Greg Bethard, a dairy farmer and international dairy business consultant with G&R consulting.
He said his approach was to use hedging not to make money but to “avoid disaster”.
“Hopefully the UK will have a hedging strategy at some point in the future,” said Dr Bethard, suggesting the role that farm lobbying groups could play in setting the wheels in motion.
“In the US, futures have made a real difference and have been very positive.”
He said he was “shocked” by the variation in milk price UK farms are currently receiving.
Which Dairy Futures Strategies are Successful?
When it comes to choosing price floors and ceilings, there’s no perfect philosophy, said Dr Bethard.
A wide range of strategies have been used by different US farms since the first contracts were offered by The Coffee, Sugar and Cocoa Exchange in 1993.
Initially, the CSCE offered cheddar cheese and nonfat dry milk contracts and introduced a Class III fluid milk contract in 1995, the same year the Chicago Mercantile Exchange started offering its own fluid milk contract.
Ideally, the futures market provides a win-win situation for both farm and processor, said Matt Lange of AgStar Financial Services.
He also highlighted the role futures could have in the UK, especially with quotas gone.
He said: “The processor wants to mitigate the risk of milk price being driven up because of global demand or whatever the risk is, so if we can assure them that we aren’t going to receive more regardless of what the market is demanding and also have a floor for farms its a win-win situation.
This is harder to get across in reality than in theory, but he insisted some have achieved it and it can be “immensely beneficial".
Summarising the futures strategies on US farms, he said: “It’s a broad range, I have some clients that throw caution to the wind. They might have 70 per cent equity and they think their business can withstand losses for a few years.
Businesses have to appreciate that it is a trade-off between losing out on the good and dodging the bad, he added.
“Some farms say they want to cover 50 per cent of their average monthly milk production,” said Mr Lange.
“Farms think, ‘I have fifteen cents per hundredweight that I want to spend and I am going to take a price of $15’ – I saw a lot of that this year.
“The benefit is that if milk falls to $12 we put a floor out there, but what happens if cost of production is $17. We’ve effectively locked in a loss at that period of time.
“It’s a trade-off, I’d still rather take a two dollar loss than let milk slide down to $12 dollars and risk taking a greater loss.”
“Last year, some farms locked in lower prices and missed out but the reality is that they are in a better position than this year.
“In 2012, when margins were tight, they were in a good position then too.”
Volatility Means Opportunity
Going forward, Dr Bethard said farms have reason to be positive about a “burgeoning” demand for milk products globally after a ten year period which has “really tipped” the markets.
“In the US, the price discovery system we have has allowed our market to respond to this.
“Our market has followed the world price closer than the EU price has.”
Dr Bethard likes volatility because it means a market is working properly.
“There is zero correlation between feed price and dairy volatility – zero.
“I don’t care what milk price or feed price is, I want to know what the margin is.”
He emphasised the use Income Over Feed Cost had a metric to benchmark a dairy.
Mr Lange said both US and UK producers have done a “great job” of pinching pennies in tight times but warned about the impacts of changing the ration to save money.
“The last thing we want to do is erode our IOFC with feeding changes and management changes,” said Dr Bethard.
He urged farms to focus on forage quality during bad times.
“Feed you are preparing today could be fuelling cows next year when prices could be sufficiently higher”.
He said he had never been to an overstaffed dairy, and that the key to reducing labour costs was to spread that cost by selling more milk.
He added that premiums can offer comfort. “These typically don’t move with the milk price, these are pretty static when times are tough.”
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