Farm Tender

Mecardo Analysis - Selling ASX. A strategy for buyers and consumers

By Andrew Whitelaw | Source: CME, ASX, Mecardo. 

Derivatives for many is a dirty word. They are however just another tool to be used to firstly protect and secondly improve your pricing. When selecting the right tool for the job, it is important to understand how to use it and have a strategy for its use. In this article, I look at a potential strategy for both growers and consumers.

The drought conditions have led to a rapid rise in both physical and futures prices in Australia for the current season. In fact, this has seen basis over Chicago rise to its highest level since at least the early 2000’s. The ASX contract is currently in backwardation, where the contracts further out on the horizon are at a discount to the nearby contracts. This is hardly surprising, as the trade wants to have ownership now – not in the future.

Nonetheless, the further out contracts are attracting strong pricing levels. The red crop contract last traded at A$374/mt (Figure 1). A figure which prior to the current rally for new crop would be considered fantastic.

Dependent upon your risk profile, this makes for an attractive price for producers. At present, the new crop ASX basis to Chicago is +A$182/mt. This is an astronomical level and shows the concerns that the trade has due to this drought. The red crop, however, is trading at A$65 over CBOT. Although this is a large difference in basis, we have to keep this in perspective of history.

In Figure 2, I have plotted the ASX wheat basis to CBOT from Jan 2004 to present, using both the old NSW and new east coast contract. I have used the average basis level for January, as this is the month when the contract is finalized. As we can see, the average basis during the final month of the contract has been +A$26/mt and A$65 would be the top end of the range.
2018-09-25 Grain Fig 1 2018-09-25 Grain Fig 2
Key points
   * Attractive prices for growers in further out contracts, with the opportunity to sell basis for the 2019/20 harvest at a strong level.
   * At present, the new crop ASX basis to Chicago is +A$182/mt.

What does this mean?
The current pricing structure provides the opportunity for growers to sell basis for the 2019/20 harvest at a strong level. We don’t yet know what next season has in store for us; it could be a bumper or a blowout. This however, does provide some certainty on price, and if pricing of A$370 ends up the worst price for 2019/20, then its not a bad starting point.

On the flip side, there is the opportunity for grain consumers to utilize a selling strategy. There will be no consumers of grain in Australia who will not feel the pinch of high prices during 2019. Although selling wheat goes against the natural short position of consumers, this will give them the opportunity to gain from any downward basis movement and place any potential gain against new crop or red crop requirements. Dependent upon risk profile, this can be conducted without having some cover or with CBOT/physical cover to offset some of the risk.

In each of these strategies, there are risks. It is important to understand your risk profile and the risks involved in taking out futures contracts.