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May 27, 2020
Each month in Wallaces Farmer magazine, the Timely Tips panel answers questions sent by readers. Members of the Timely Tips panel are Alejandro Plastina and Wendong Zhang, Extension economists, Iowa State University; Leslie Miller, Marion County Savings Bank, Knoxville; and Rob Stout, Master Farmer, Washington, Iowa.
A neighbor wants to sell 240 acres but doesn’t want a public auction. He approached me and three others to see what kind of bid we would make. My farming son (age 30) and I (age 54) could use more land, but we aren’t sure how much to offer. Also clouding our decision is this global coronavirus pandemic. How long will it go on and how will it affect the U.S. ag economy?
Stout: The experts don’t know the answer to that and neither do I. Corn, soybeans, hogs and cattle have tanked and are well below cost of production. My real concern about a price recovery is that seasonally corn and soybean prices rally in spring and early summer, but with the pandemic that may not happen this year. Also, hog prices seasonally have their best prices in May through July, which may take a huge hit from the COVID-19 pandemic. Cattle prices usually rally in the spring and are now at low levels.
So, with the entire ag economy down, the only way it can go is up, right? It may improve this summer, depending on if our economy gets opened up completely, but some of the demand is simply gone, and exports aren’t taking up the slack because the rest of the world is suffering, too. Because of the sheltering in place, ethanol use is down, increasing the corn carryover, lowering the price. Land is still a good long-term investment, though, and if it fits well with your operation, I wouldn’t dismiss it because of the pandemic. Long-term interest rates are low. And if you can make a decent down payment, it still might be a good time to buy land. Keep in mind, you will likely have to subsidize the payments for a few years before it will cash flow, so make sure your financial situation can withstand that.
Miller: No one knows how large the losses from COVID-19 will be, or how the losses will affect producers. It’s very difficult and risky to purchase an asset that might require a subsidy from your current cash flow. Plus, if the COVID-19 losses are sustained, it might be that more acres of land will be put up for sale, which could soften the real estate market.
If the owner doesn’t want to farm anymore, would it be possible to lease the land for a five-year period? With a slightly higher cash rent, in exchange for getting a lease clause that gives you the right to buy that land at the end of the five years for “X” amount of dollars? At the end of five years, you can judge if the negotiated price is too high and walk away, or deem the price very reasonable and exercise your right to buy. Note that a right to buy gives you more control than a right of first refusal would provide.
Zhang: The pandemic is likely to overshadow the U.S. and global economy over the next couple months, if not longer. My colleagues at ISU CARD recently released a report, projecting that significant damages for the hog and ethanol industries. But there are three potentially good things to bear in mind:
U.S. agricultural economy doesn’t necessarily move in tandem with the general economy; think about the boom during the 2007-08 financial crisis.
Farmland values tend to be supported with lower interest rates, and now the Federal Reserve has made substantial cuts to interest rates.
Farmland is often a long-term investment. The land market is still relatively stable and robust.
Examine the recent farmland sales of comparable parcels in your area and reach out to a certified appraiser. ISU Ag Decision Maker info files C2-76 and C2-77 also discuss how to evaluate a land purchase decision.
As a young farmer, it’s hard for me to sell grain ahead. I know I need to get more forward-priced, but come harvest, I realize I haven’t hardly sold anything. I fear making a sale and then seeing prices go higher. How can I overcome this?
Stout: It’s tough for us older farmers, too. No magic wand is available to overcome that mental block of forward selling; you just have to look at history and make sales based on historical price action. Traditionally, May to July offers the best opportunities to price the crops until after the crops are in the bins. COVID-19 may rewrite the normal for this year, but normally the spring and early summer rallies give us a chance to forward-price at a profit.
Just start selling in small increments, and if the price goes up, don’t freeze; just sell some more. Scale-up selling is a pretty good marketing plan for bushels you need to sell before harvest, whether it is for cash flow needs or lack of bin space to store the crop. Don’t look back and kick yourself when the price goes up, it just means you can sell more bushels at a higher price.
Plastina: Selling something you do not have on hand can generate anxiety. However, a good strategy can be used to reduce if not completely eliminate such anxiety. It requires good yield records, realistic price expectations, a solid understanding of your cost of production and determination.
First, estimate your cost of production for the season, including all cash costs (seed, chemicals, fuel, custom work, interest payments, etc., plus machinery and building depreciation, plus the opportunity cost of any land owned. You must include some form of compensation for family labor (value of labor plus return to management, or simply expected cash withdrawals for living expenses over the year).
After dividing the total cost of production per crop by the number of planted acres, you will arrive at the cost per acre. Divide such amount by your average yield in recent years, and you will arrive at your cost per bushel. The estimated cost per bushel is key for a solid marketing plan. Whenever prices are at or above your cost per bushel, it is advisable to sell ahead a portion of the crop. Number of bushels to sell should be based on your production history. If you carry crop insurance, you might feel less anxious selling ahead because a production shortage will typically trigger an indemnity payment that can help you buy the missing bushels in the spot market.
Historically, corn and soybean prices have been, on average, higher in spring than at harvest. Even if the market price is below your cost of production, as long as it covers your cash costs and part of your opportunity costs, it is reasonable to sell a small share of your crop in the spring. No marketing strategy ensures profits, but spreading your sales throughout the year, and making at least one of the multiple sales in the spring is more likely to generate higher profits (or lower losses) than selling most of the crop at harvesttime, when prices are typically lowest.
Determination to sell a share of your crop in the spring even when prices do not cover all your costs is another key element of the marketing plan. It is important to remember that carrying crop across seasons is costly in terms of storage and quality losses.
Miller: It is very important to calculate breakeven prices when you are trying to figure out a starting point for pricing your grain (or livestock). That exercise, coupled with the worry of a possible short crop, makes it difficult for some to make that forward sale.
To encourage farmers to get started, share a conversation I once had with Art Barnaby, an emeritus ag economics professor at Kansas State University. He shared the concept of dividing a crop into thirds to simplify market planning. The bottom third of the crop — meaning 15 to 20 bushels of beans and 50 to 65 bushels of corn — should be the easiest to forward-sell because you will almost always produce those bushels. For those bushels, he recommends forward contracting because there is no cost and it is the easiest thing for most farmers.
For the top third of your crop, say the last 15 to 20 bushels of a 50- to 70-bushel bean crop, or the last 50 to 75 bushels of a 150- to 225-bushel corn crop, he recommends using options. You could establish a price floor without being forced to deliver the actual commodity, protecting you in case of a crop shortfall. For the “middle third” of the crop, he recommends you consider your crop insurance as price protection for those bushels, and not worry about selling them ahead of time.
In recent years, we’ve seen farmers use options first to lock in prices because they started selling the next year’s crop when they were harvesting the current crop. At that time of year, the basis is usually very wide, so forward contracting doesn’t seem like the best marketing tool. However, as basis narrowed and we moved into April and May of the crop year, farmers began using forward contracting to put more price protection in place.
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