Farm Management Specialist
University of Missouri Extension
Sell at Harvest, Buy Call Options?
Every year, as harvest approaches, I get questions about selling grain at harvest and then buying call options to replace it. This seems like an appealing strategy. You can get the cash for the grain and maybe an LDP. Downside price risk is eliminated, because you no longer own the grain. Storage risks (grain condition, thief, etc.), handling losses and storage costs are eliminated. However, this strategy has some shortcomings--especially for fall-harvested corn and soybeans.
Selling at harvest normally means accepting a weak basis. Basis (the amount cash prices are discounted from futures price) usually worsens at harvest time. It is usually best to avoid cash sales during periods of weak basis. Current Central Missouri new crop corn bids suggest a basis of nearly a minus forty cents. This is nearly twenty cents worse than the average of recent years, but similar to last fall. Last year, Central Missouri cash corn basis improved nearly twenty cents by early winter. You would expect to give up this potential twenty cents basis improvement by selling at harvest.
Selling at harvest also gives up market carry. Market carry is the difference between the nearby and distant month futures prices or what the market is offering for storage. For example, December corn futures closed at about $2.16 on Thursday (8-26-99) while March futures were $2.27. This is a market carry of about eleven cents ($2.27 March minus $2.16 December). If you sold cash grain based on the December futures and purchased a March call option (based on March futures), you give up this eleven cents. Since you=re not storing the grain, in effect you give up the storage return when buying the call option for March futures.
Finally you would be out the cost (premium) of the option itself. On Thursday, the March $2.30 (strike price) corn call option had a premium of eleven cents. This is what you pay someone else for taking the risk of lower prices.
Adding all of these up suggests that prices, by late winter or early spring, would have to increase by nearly 43 cents ($.20 potential basis improvement plus $.11 market carry plus $.11 option premium) in order to offset what you gave up by selling at harvest and buying an at-the money corn call option.
Buying a call option to replace cash sales of corn (or soybeans) isn=t necessarily a bad strategy, but it usually works better later in the marketing year. If you stored until winter and then make cash sales, basis should have improved and you could normally capture some of the market carry. Time value may have also eroded the option premium somewhat, making it less expensive. The strategy should work better then.
Right now, it appears that both the cash (weak basis) and futures (carry) markets are saying they don't want grain at harvest! If you can find storage for the crop, that might be a better short-term strategy.
Decisive Marketing - August 27, 1999