Delegates warned of further feed increases
Egg producers worried about the price of feed have been warned that there could be further increases in commodity prices.
The warning came from Hugh Burton, who is responsible for the ABN formulation team and for co-ordination of purchasing, during a talk at Pig and Poultry Live. Big increases in the price of feed have been largely driven by historic rises in the price of wheat, but Hugh told delegates at the event that those historic increases did not preclude further rises in the price of wheat and other agricultural commodities.
’You would suggest that if you were at an all-time high there is potentially more downside risk than upside but over time with inflation and quantitative easing etcetera commodity prices are tending, within a very volatile price range, to trend upwards. One of our weaknesses as individuals sometimes is that we are not able to predict the range of prices that we are likely to see ’ we are quite conservative about what we think future outcomes might be. We actually don’t see the full risk we are dealing with.’
Hugh was taking part in a workshop looking at risk management in feed. He was joined at the workshop by Keith Milne, who is senior marketer for Cargill Risk Management. Together they explained to their audience how commodity prices had become more volatile and suggested ways of trying to protect against huge rises in the price of agricultural commodities.
Keith Milne said that 10 years ago there was relatively little uncertainly about price. Today, with world markets all linked, there were a number of things creating uncertainty.
Weather was one cause of uncertainty. In the middle of last year there had been an enormous global wheat crop. He said the stocks to use ratio was running at between 30 and 35 per cent when a level of 25 per cent indicated low prices. However, a drought resulted in huge losses of wheat in Russia, the stocks to use ratio in Europe fell to 15 per cent and the price of wheat ’went through the roof,’ he said.
He said acts of nature could also have an effect on markets. The earthquake, tsunami and subsequent nuclear crisis in Japan had caused the value of the Yen to fall by 10 per cent. There was also a drop in world commodity prices because of uncertainty across world markets.
Politics was another factor affecting markets. There had been an uprising in Tunisia, a government change in Egypt and conflict in Libya. The day protests broke out in Libya the oil price went up $2, he said. ’These events are unpredictable and cause tremendous fluctuations in prices.’
Financial institutions had had an impact on the uncertainty in commodity prices. Following the financial crisis fund managers had become increasingly interested in investing in agricultural commodities. Buying and selling by fund managers created volatility in prices. He said that changes in demand also had an affect on the price of agricultural commodities. ’If you look at soya beans, 10 years ago China hardly had any demand for soya beans. Now they have the biggest demand in the world. In China even some of the biggest companies in the world find it difficult to predict the demand for beans in China and consequently the effect of that on world prices for soya beans.’
Keith Milne used wheat futures to illustrate how prices are now much more volatile than they were previously. Between 2000 and 2006 volatility was relatively small ’ between five and 15 per cent. Since that time volatility has never been lower than 15 per cent and has been running as high as 42 per cent. ’There are tremendous amounts of uncertainty in the commodity markets,’ said Keith Milne.
Keith and Hugh said there were ways to insure against the biggest price rises. The traditional wedge of cover, in which the buyer seeks to find a middle way through the variations in the market, was an effective way of avoiding price extremes.
Buyers should also consider relative value in attempting to constrain costs. There had been huge discounts for barley this season, making it look very attractive. Comparing rapemeal and soya, Hugh said that rapemeal was less valuable in protein terms than soya meal but if rapemeal was better than 60 per cent of the price of soya meal it was worth buying rapemeal. ’It is a case of what’s best to buy at any given time.’
Hugh and Keith then went on to explain a risk management contract called modified capped average that had been developed to help customers lessen the effect of huge swings in the price of agricultural commodities. They outlined one example of such a contract in operation.
Hugh said the example was from July 2008 and involved soya bean meal. He said the United States had had a difficult planting season ’ it had been overly wet and there had been flooding in some parts of the country.
Growers had struggled to get crops into the ground. Prices had risen to historically high levels of about $400 dollars per short ton. ’If the flooding carried on there was a possibility that some of the crop could be lost and prices would go even higher, but with prices being as historically high as they were there was a significant risk to the downside as well.’ If there was not a disaster the market had a long way to fall, he said. Hugh said the risk management tool involved in the example protected from the possibility of further price increases and at the same time enabled the customer to benefit from price falls.
Keith Milne said that a cap price was set at $430 per short ton, providing 100 per cent protection against any rises. A premium of $22 per short ton was paid for the benefit of the risk management tool. Each day after the start of the contract a daily price was set at either the cap price or the closing futures market price, whichever was the lowest. At the end of the contract a modified average was calculated using all the daily prices.
The delivery month for the contract was September, the price subsequently fell to $320 per short ton and then recovered to $360 per short ton. The modified average was calculated at $375 per short tone, providing the customer with a rebate of $5,500 on the contract. After deducting the $2,200 cost of the premium, the customer saved $3,300 dollars on the price of the soya bean meal at the time the contract was struck.
’Clearly this is just one example and there is no simple solution to volatility in these markets,’ said Keith. He said individuals should possibly look at using a mixture of all the methods available ’ wedge of cover, relative value and some form of risk management ’ to avoid having all their eggs in one basket.
