Melvin Brees
Farm Management Specialist
University of Missouri Extension

 

 

 

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Please send your comments and send suggestions to Melvin Brees, Farm Management Specialist, University of Missouri Extension, #1 Courthouse Square,  Fayette, MO 65248, call 660-248-2272, or send messages by e-mail to: breesm@missouri.edu.
October 1, 1999

The LDP, Something for Everyone?

The features of the CCC marketing loan provisions relating to market loan gain (MLG) or the use of the loan deficiency payment (LDP) allows for a variety of marketing strategies. The loan or LDP can be used for price support, price insurance or as a speculative tool. Deciding on how to use them depends upon your cash flow situation, risk bearing ability and your market expectations.

The market loan program was designed to provide price insurance or price support. If market prices are below loan prices, grain can be placed under loan and the grain forfeited or the loan repaid at the county posted price (PCP) which effectively provides price insurance at loan price. Storing grain and maintaining LDP eligibility works like a "free" put option to also provide price insurance. When executing loan provisions, either by repaying the loan at the PCP or collecting the LDP, and then selling the grain--the loan price or insured price becomes the supported price. The LDP also provides support for grain delivered out of the field. When used in this manner, as long as the PCP is approximately equal to the cash market price, the market loan provisions reduce price risk and support cash prices near loan price.

The LDP provisions can also be used as a speculative tool to enhance price. While this increases some risks, if properly used, some of these strategies offer opportunities manage storage and price speculative risks to capture better prices. The LDP can be used for strategies to enhance price for both market bulls (those expecting higher prices) and market bears (expecting lower prices). The amount of risk and potential rewards depends upon the strategy.

Bullish strategies: The most risky bull strategy is to take the LDP and store the grain for higher prices because it assumes both price and storage risks. A variation on this is to take the LDP, store the grain and limit price risk by buying a put option (see last week's, 9-24-99, Decisive Marketing). This reduces risk, but you're out the option premium. Other bullish strategy examples are taking the LDP, selling the grain and re-owning with futures or call options. This locks-in the supported price and eliminates storage, but still carries either price risk or premium costs.

Bear strategy: An example of a bear strategy is to store the grain, forward contract it and maintain eligibility for the LDP. The contract locks in the cash price. If prices fall, the LDP would be expected to increase. The increased LDP would enhance the contracted cash price with the goal of netting an even higher price.

Whatever strategy you choose, it is important to understand how the LDP works (it's tied to the cash market and basis through the PCP) and the risk associated with it when price changes occur. Some are also complex strategies that require knowledge and timing in the use of marketing tools. However, the wide variety of possible strategies offers something for almost everyone.

-- Melvin


University of Missouri ExtensionDecisive Marketing - October 1, 1999
http://outreach.missouri.edu/agconnection/DCT/DM991001.html -- Revised: April 20, 2004
breesm@missouri.edu