“If ever there was a time to learn and utilize multiple marketing tools, it is this year. The near-term trend of sideways price action is providing you the opportunity now to position yourself with smart preplanned marketing decisions. Invest in the future by controlling volatility with the appropriate marketing tools that are right for you and your operation. A simplistic, yet balanced approach is to forward sell half your crop, buy puts on the other half, and buy calls to cover forward sales. You can confidently head to the field and have effectively positioned yourself for whatever way the market moves.”
– Bryan Doherty, Successful Farming
This is an example of a well intentioned article about commodity markets. The shortfall? It requires that the reader has knowledge of the marketing strategies mentioned before he or she can get the most value from it.
When I read things like this, I have flashbacks to my high school Spanish class where we’d be given a short article, written in Spanish, and told by our teacher, “Just use context to decipher what unknown words mean in the text! This should not be that hard to figure out!”
And we all reacted with blank stares. It’s a little hard to use context when you only understand a few words in the whole article! He was grossly overestimating our existing knowledge.
The nice thing about this marketing article? At least it’s written in English. 🙂
My goal with Farm Girl Next Door has always been to write without the assumption that the reader has prior grain marketing knowledge.
So when I saw this article I thought, I bet someone read this and said to themselves, “I wish I understood the mechanics of calls and puts so I could explore that strategy further, because that section just went way over my head.”
So today, I’m breaking it down for you. Let’s re-look at part of the excerpt:
“A simplistic, yet balanced approach is to forward sell half your crop, buy puts on the other half, and buy calls to cover forward sales. You can confidently head to the field and have effectively positioned yourself for whatever way the market moves.”
Here are a couple of questions you might have when you read through this:
Q: What good does it do to buy puts on half of your production?
A: Put options protect a floor price.
If you’re worried the market might fall, you buy puts to limit your downside risk. Thus, buying puts on half of your bushels gives you piece of mind that you have downside price protection without having sales on the books. Instead of being entirely at the mercy of the market on the half of your production that is not forward sold, put options allow you to protect a floor price.
Q: Why would you forward sell half of your production and buy calls to cover those sales?
A: Buying a call option allows you to capture value if market prices rise.
Sometimes, you might feel nervous about forward selling too much because you don’t want to overcommit and miss out if prices rally. Buying call options gives you the courage to make forward sales. Why? Because when market prices rise, your call options increase in value. Thus, you can rest a little easier about making forward sales knowing that with bought calls in place, you won’t miss out entirely on increased value from a market rally.
I hope that helped give you more context…at the very least more context than what my high school Spanish teacher used to give us! 🙂
Be sure to send me an email (nefarmgirlnextdoor@gmail.com) if you run across something in an article about grain marketing that you wish someone would explain. It might just be the inspiration for another post like this!