The country elevator is in an enviable position to serve as a price neutral conduit for grain from producers to end users. In order for this to work, you must start by always being fully hedged. Once you have a routine in place to keep the elevator in balance and devoid of price risk you are free to shift your focus to where you make your money: basis and spreads.
If you work directly with price sensitive buyers or sellers, you obviously will want to be aware of current futures levels and local cash price as they will drive your conversations with those people. However, this will not drive elevator profitability
I started my first job in grain shortly before fall harvest with very little understanding of basis trading. We had quite a few bushels of corn bought on forward contracts for harvest delivery. Trying to get a feel for how these contracts compared to the current price, I asked the previous merchandiser for the average contracted price. He quickly answered -50 Dec. When I clarified I really wanted to know the average cash price, he explained that he had no idea. This surprised me at the time, but it was one of my initial light bulb moments in understating what it meant to be a basis trader. My perception of grain values began the shift from cash price to basis.
For the basis trader, the futures price is simply a tool to set basis on cash transactions. The less energy you expel speculating on how futures may move, the better off you’ll be. Instead, focus on how you can make money: Buy Basis, Sell Basis, and Spreads.
- Buy Basis
Focus origination efforts on contracts that will give the elevator basis ownership while making a profit for the producer. Work to set your buy basis to be both competitive and profitable. Study local basis history, and track local basis along with your average basis ownership so you know where you stand with your ownership.
- Sell Basis
Learn the local buyers’ needs and tendencies to negotiate good basis sales. Always know what basis number you will sell and be ready to take action when opportunity presents itself.
Take time to plan out your anticipated grain flow and work to set spreads that will allow you to carry out your plan.
The elevator’s margins come from taking advantage of basis and spread opportunities. Therefore, the elevator’s success is closely tied to its ability to shift focus from futures prediction to basis trading skills. Be sure you are focusing your energy and attention where your margins come from.
Topics: Basis Trading