Prepare for a Precarious Market
While the pendulum of today’s financial news stories swing widely and quickly from the “sky is falling” to “the sky’s the limit,” the underlying theme is volatility.
Commodity markets are caught in flux between growth and contraction. Bullish underlying fundamentals, strong demand and sufficient prices, contrast bearish, macro-economic risk factors.
Although the very real inflationary trend grabs headlines, the rising interest rates, aggressive Federal Reserve monetary policy, persistent strength of the U.S. dollar, global energy concerns and recession fears are all top of mind for fund managers. With the European Union and U.S. already in a technical recession, the prospect of a global slowdown seems probable. Coupled with a sluggish Chinese economy, the risk of global pull back is a wet blanket on the commodity space.
Domestically, the dairy sector remains on firm footing, but the ground could start to shift. Milk production had been shrinking, both stateside and globally; however, the latest data from USDA shows a slight expansion. Components remain strong and with the 1.6% uptick in milk production, overall numbers are surging a bit. If this becomes a trend, a wall of milk might be looming come Spring.
Through this economic swing between bull and bear markets, risk management becomes paramount to negate volatility in ag commodities markets. Producers and end-users alike should consider their positions and balance their approach.
Insurance presents another hedging approach. USDA’s Dairy Revenue Protection and Livestock Gross Margin insurance can help establish a stable price floor for producers. While DRP covers expected revenue, LGM is similar to buying both a call option to limit higher feed costs and a put option to set a floor on milk price.
Regardless of the strategy, diversification will be key. Producers’ optimal scenario might be to hold open positions in a margin-free environment with flexible options, such as exiting positions to take profit or stop loss.
Going forward, a wide price spread is on the horizon along with significant uncertainty, which is cause to examine your exposure to downside risk.
A trusted financial adviser who understands ag commodities can help identify and address the risk and volatility ahead. Put tools in place to mitigate uncertainty now.
November 2, 2022