Posted by: usset001 | January 3, 2011

Should I lift my futures hedges early?

Since the third week of November, corn futures prices have increased in a strong and steady manner. Jul’11 corn futures are $1 higher in the past 6 weeks, and there seems to be no end to this trend. So what about us hedgers (like me) – the people who chose to sell July futures in October or November to hedge the value of corn held in storage. We are waiting for the basis to narrow from about 100 cents under the July contract at harvest, to something closer to 25-35 cents under by late spring (FYI, it’s working very well). Our problem? Feeding the margin beast at our door because July futures are $1.00-1.50 higher since the hedges were placed.

This dilemma led to the following email from a grain producer this morning: “I need some advice on some short hedges. Is it too late to get out or do I hold on for the rest of the ride at this point.”

This note is short on detail – I don’t know if he is concerned with a corn, soybean or wheat hedge, and I don’t know the size of the short position or his basis targets for the months ahead. All I can do is read between the lines and this is what I read, “SOB! How long must I endure these margin calls.”

Here my response: I generally feel you should ride out your hedges until the grain is finally delivered. If you “lift” the hedge (buy back futures) early – before selling your cash grain – you expose yourself to the risk of a market correction (read, “sudden crash in prices”). The possible combination of taking a loss on the futures hedge, then another loss on the cash grain is what we used to call having “stuff” on both ends of the stick.

In mature company, I use a different word than “stuff” but I want my blog to remain family friendly.


Responses

  1. I enjoy following your blog, keep up the good work! I think it’s important to note that the producer doesn’t have to remain in their futures hedge until the grain is delivered, only until he/she decides to set the basis and contract the grain for delivery. So they could choose to take July (or whatever) basis today and lift their hedge and remove themselves from a marginable position. I’m sure this is essentially what you meant above, but just wanted to add some clarification.

  2. Nice article, very good commentary. Good analysis! Hope your new years went well 😀

    Sincerely,
    denny
    http://startinginbusiness.org


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