Types of Grain/Oilseed Contracts
by:
Joe Parcell
PIE 231 - Agricultural Contracting
Why a Grain/Oilseed Contract?
 Change in farm policy
 Increased global market risks
 Price risk (uncertainty)
 The neighbor did it
Types of Contracts
 Production
– quality
 Marketing (traditional contracts)
– Fixed price
– Basis
– Deferred price
– Hedge-to-arrive
– Minimum price
Production Contracts
 High Oleic Soybean Contract
– Bailment
• Clause regarding “intellectual property” rights issue
–
–
–
–
A.
B.
C.
D.
Can’t sell to a third party
No access by third party
Can’t keep and seed
Can’t use crop as collateral
Production Contracts
 High Oleic Soybean Contract
– General Terms
• Acreage specification
• Purchasing seed specification
• Basically says you will pay a technology fee
Production Contracts
 High Oleic Soybean Contract
– Delivery
• Where to sell seed
• Buyer’s call between December 1998 and April, 1999
– Price risk issues
• One week notice
Production Contracts
 High Oleic Soybean Contract
– Quality Specifications
• Moisture
13% max
• Splits
20% max
• Total damaged
2% max
• Heat damaged
0.3% max
• Foreign material
1% max
• Contamination
12% max
– No Premium if outside the limits
– Specify variety you plant
Soybean Grades and Grade Requirements
Grades U.S. Nos.
Grading Factors
1
Test weight (lbs./bu.)
56
2
3
Minimum pound limits of
54
52
Maximum percent limits of
4
49
DAMAGED KERNELS
Heat (part of total)
Total
FOREIGN MATERIAL
SPLITS
SOYBEANS OF OTHER COLORS*
0.2
2
1
10
1
0.5
1
3
5
2
3
20
30
2
5
Maximum count limits of
3
8
5
40
10
Soybeans of other types ??
OTHER MATERIALS
Animal filth
9
9
9
Castor beans
1
1
1
Crotalaria seeds
2
2
2
Glass
0
0
0
Stones**
3
3
3
Unknown foreign substance
3
3
3
Total***
10
10
10
Source: USDA
*Disregard for Mixed soybeans.
**In addition to the maximum count limit, stones must exceed 0.1 percent of the sample weight.
***Includes any combination of animal filth, castor beans, crotalaria seeds, glass, stones, and unknown foreign substances.
The weight of stones is not applicable for total other material.
9
1
2
0
3
3
10
Production Contracts
 High Oleic Soybean Contract
– Pricing and Grower Compensation
• Compensation
– Elevator cash price on day of delivery - which someone else
sets
– Premium scale
» Less than 75% Oleic
$0.00 per bu.
» 75% Oleic or greater
$0.65 per bu.
– Additional incentives for using optimum crop protection
chemicals
Production Contracts
 Optimum - MFA High-oil Contract
– Oil Premium
• Changed between end of December and now
• Response to profitability issue????????
– Delivery window
• Now have delivery window
– This makes risk management much easier
– Look at further out months
Marketing Contracts
 Fixed Price
– This type of contract, also known as a “flat price”
contract, transfers all price risk and opportunity
from the seller to the buyer on the date of the trade.
 EXAMPLE
• On July 1, a producer sells for November delivery and
establishes a flat price of $2.30/bushel.
Source: USDA, RMA
Marketing Contracts
 Forward Price
– The price being offered by the futures market for
future delivery
 EXAMPLE
• On July 1, a producer prices harvest production in the
December futures contract
Source: USDA, RMA
Marketing Contracts
 Deferred Price
– This type of contract, also known as a “no price
established” contract, provides the seller the
opportunity to deliver and transfer ownership on
the contract date, but without a sales price.
 EXAMPLE
• On November 1, a producer delivers to the local elevator
and enters into a deferred price contract. On January 1,
the producer prices the contract at the current elevator bid,
less the delayed price charge.
Source: USDA, RMA
Marketing Contracts
 Hedge-to-arrive
– This type of contract is the basis of a contract; it
permits the seller to set the futures level on the
contract date, but the basis level is determined by
the seller at a later date.
 EXAMPLE
• On July 1, a producer agrees to sell a specified quantity for
November delivery. The futures price is set at $2.50/bushel
per the December contract on the CBOT. The basis level
remains open, to be set by the seller at some later date.
Source: USDA, RMA
Marketing Contracts
 Basis
– Is also known as a “fixed price later” contract. This
type of contract transfers the basis risk and
opportunity form the seller to the buyer on the date
of the contract.
 EXAMPLE
• On July 1, a producer agrees to sell a specified quantity for
November delivery at $0.20 December (the November 1
cash price less $0.20)
Source: USDA, RMA
Risk to Seller and Buyer
Seller
Buyer
Fixed
Transfer all to Buyer on day of
contract
Accept all Risk from
seller on day of contract
Deferred
Retains futures and basis risk
until the pricing date
None, unless sold to a
third party
HTA
Seller retains basis risk, and
production risk
Assumes futures price
risk
Basis
Retains futures risk, and
production risk
Assumes basis risk
Source: USDA, RMA
Risk Exposure w/ Various Contracts
source: Wisner
Price
level
Cash
X
Basis Production
X
Forward
Basis
X
Price later
X
HTA
Minimum
Tax
Industry risk
rating
Moderate
X
X
Low
X
X
Moderate
X
n/a
?
Moderate
X
X
X
Low
X
Low
When Will Contract Perform Well
 Fixed price
– n/a
 Deferred price
– Perform well if markets rise following the contract
date.
 Hedge-to-Arrive
– When cash and futures converge toward contract
expiration
 Basis
– If futures price increases
Source: USDA, RMA
When Will Contract Perform Poor
 Fixed price
– n/a
 Deferred price
– Perform poorly if markets drop following the
contract date.
 Hedge-to-Arrive
– When cash and futures diverge toward contract
expiration, i.e., basis widens
 Basis
– If market price decreases Source: USDA, RMA
Scenarios for Selected Market Alternatives
source: Wisner
UP
1. Store and wait
1. Basis contract
2. Delayed price contract
2. Sell cash and buy futures
or buy call option
3. Minimum price contract
Strengthen
Basis
3. Minimum price contract
Expected
Change
Basis
1. Hedge
1. Cash sales now
2. Hedge-to-Arrive
2. Forward Contract
3. Buy put option
Down
Weaken