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Thursday, September 19, 2013

New crop downside risks and hedging strategies

By Angus Brown  |  Source: CME, ASX, ICE

Key points

  • Lower international grain prices, coupled with basis downside risk, suggests local harvest prices could fall further.
  • Downside risk for APW wheat is to $220/t, barley to $180/t and canola limited to soybean falling.
  • Selling wheat and barley 2013/14 multigrade contracts will provide a good hedge against lower international and weaker local basis.
     

Figure 1. ASX vs CME wheat

2013-09-18 New Crop Downside Risks FIG 1

Figure 2. ASX feed barley vs CME corn

2013-09-18 New Crop Downside Risks FIG 2

Fiigure 3. ICE canola vs soybean

2013-09-18 New Crop Downside Risks FIG 3

With global new crop grain prices just a touch above their lows, and domestic prices falling 8-10% in the last two weeks, what can we expect next? This week, we take a look at the potential downside lying ahead and the options left to cover against lower prices by harvest.

Wheat

Despite recent downside wheat could fall further, especially at harvest, as basis to global prices could fall to -$10/t, taking another A$15-20 out of the current price. In addition, wheat continues to trade at sizeable premiums to corn (190¢/bu or A$62/t) leaving it exposed to falling corn prices during the US harvest (September-November).

Large premiums to corn, coupled with favourable soil moisture in major winter wheat areas in the US, may see a bigger crop go in, which will impact markets in later this year.  With that in mind, the downside target for CME wheat Dec-13 is $230/t and $220/t for local APW, considering basis at -$10 (figure 1).  Upside could appear if there are major issues with either corn harvest, or wheat plant in the northern hemisphere, which would add up to $20-30 to current prices, thereby reaching to $280-290/t.

Barley

CME corn Dec-13 fell to 455¢/bu this week. In our terms, prices dropped to a new low of A$193/t as USDA upgraded production prospects in the US. Lower corn prices coupled with widespread rainfall on the east coast has seen ASX feed barley Jan-14 plunge $24, or 10%, to A$210/t in the last two weeks. That has also seen the premium to corn fall $15 to $17/t this week (figure 2).  

Based on the premise that barley is still carrying large premiums to corn and the potential downside for wheat, the downside target for barley is $180/t. At the 2011/12 harvest, barley hit $180/t when corn was at $220/t: current prices are 12% below that.  The main difference then was the fact that wheat was only at $220/t, which was supportive for barley.

Canola

ICE canola Jan-14 is trading at a $12/t discount to soybean at CA$498/t, which is highly unusual (figure 3). This also means downside risk is now reliant on soybeans falling.  The reason for the relatively low canola price is the fact that Canada is about to harvest its largest crop on record. That said, canola should go back to a premium to soybeans either when the US starts harvesting (November) or South American soybean prospects start to look good (December-January). 

What does this mean?

The proposed downside targets are still quite plausible in the event seasonal conditions improve in the US. As for basis downside, an average/above average spring could still place significant pressure on local prices.

Wheat: Best options for hedging are probably multigrade contracts to lock in the local basis at current premium to global markets. APW track multigrades at $261/t in Vic/SA would protect against a $40 downside risk.

Feed Barley: With potential downside target to $180/t, barley may be a hold this harvest. A multigrade contract should be considered if selling barley at harvest.  Upside will depend on improved corn and wheat prices.

Canola: One plausible strategy is to sell soybean swaps for March at A$530/t and hold Canola until then. The idea is to take advantage of canola premium going back to +$20 (conservative) and local basis recovering to +$10. This will give a net canola port price of $560/t vs $500/t available now.

Mecardo information is provided to assist in your marketing decisions. It contains a range of data and views on the current market. It is not intended to constitute advice for a specific purpose. Before taking any action in relation to information contained within this report, you should seek advice from a qualified professional. The information is obtained from a variety of sources and neither Mecardo nor Ag Concepts Advisory will be held liable for any loss or damage whatsoever that may arise from the use of information or for any error or mis-statement contained in this report. 

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