It’s an exciting time to be a wheat farmer, said Jason Kelley, wheat and feed grains specialist with the University of Arkansas Cooperative Extension Service.
“Historically high prices will likely lead to an increase in wheat acreage this fall,” predicts Kelley.
However, he said, huge acreage gains could be limited by attractive corn, soybean, grain sorghum and rice prices. Wheat has relatively lower input costs compared to corn and rice, but the budgets for all these crops have been impacted by price increases in fuel and fertilizer.
“New crop wheat bids look very attractive,” Kelley said. “Growers recently could book 2008 wheat for $6 a bushel (delivered to Memphis). Many marketing advisers are encouraging producers to ignore the wide basis and forward contract some production now for 2008 and 2009.”
A significant gap exists between Chicago July wheat futures prices and the new crop cash bids being offered, according to Scott Stiles, extension economist at Jonesboro, Ark. This gap represents the basis (the difference between cash and futures prices). At some locations, the new crop basis is almost 90 cents under the Chicago July ’08 futures contract.
“One explanation for the negative basis is barge freight rates,” Stiles said. “Key factors behind freight increases include: high fuel prices, lock repairs and resulting delays, strong export demand, a bumper corn crop and a limited supply of barges.”
The high price offered for wheat is being influenced by three factors: deteriorating crop conditions in Australia, lower-than-expected production in Europe and strong global demand. With tight global supplies, the wheat market will continue to be sensitive to any production concerns, Stiles said.
Buying call options on forward contracted wheat could be considered if weather problems and production concerns arise. Purchasing call options can allow a grower to benefit from a significant price rally in the futures market.
Some marketing advisers recognize that the new crop wheat basis is negative in parts of the United States and suggest that producers use “hedge-to-arrive” contracts. These allow a producer to lock-in a futures price and set the basis at a later time. You still have basis risk and exposure until the basis is locked.
Another marketing tool is put options. Recently, the cost or premium for a $6.50 July 2008 wheat put was 56 1/2 cents per bushel, which nets the grower a price floor of $5.93 1/2, less brokerage fees. At the same time, a grower could also forward contract wheat for June/July delivery for $5.75 per bushel.
“The put option strategy sets a price floor or guaranteed price of $5.93 and has not obligated the grower to deliver bushels and honor a booking contract at a specific price,” Stiles explained. “The grower can still take advantage of potential cash price increases or basis improvement.”
With options, a farmer is better protected, noted Stiles. By setting a price floor with options, a grower doesn’t have to worry about being able to find enough seed or the weather interfering with planting and how that may impact his or her ability to deliver on a contract.
“If your production plans have to change, remember, buying options is purely a paper investment in price risk insurance,” he said.
The key advantage of put options is flexibility, Stiles said. The grower is free to make cash marketing decisions and still profit from falling futures prices.
“One negative aspect could be the possibility that futures prices remain flat and result in the option buyer simply losing his or her premium,” he said. But wheat producers could still offset some or all of their lost premium with price gains in the local cash market.
Kelley said that completing a new set of crop budgets is essential. The 2008 University of Arkansas wheat budgets are available through county extension offices or at the following Internet address: www.aragriculture.org/crops/wheat/budgets/2008/default.htm.