Good Question on Using Risk Protection Tools

Good Question on Using Risk Protection Tools

Crop revenue insurance is your first protection for managing revenue risk. Consider buying some hail coverage too, and learn to use "options" to protect the futures price without committing extra bushels for delivery.

FAQ: The profit margins for corn and soybeans show the potential we can achieve. My challenge is the reality of production. Many of us farm ground that produces very well if conditions are good but it really lets us down when we have extremes in weather and yields. I farm 7 units and the APH for corn ranges from 140 to 195 bushels per acre with the average being 175 bu. per acre. I use 75% coverage level crop insurance that guarantees 131 bu. per acre. The difference is 44 bushels multiplied by a $5 per bushel estimated spring price guarantee which leaves a $220 hole to fill. My point is, this increases my exposure a great deal to project the margins based on my APH. I think a better approach is to use the insurance level I buy.

Answer: Provided by Steve Johnson, Iowa State University Extension farm management specialist.

I agree, crop insurance should be the first order of managing revenue risk. Keep your actual production history (APH) yields updated on each unit. Use Revenue Protection (RP) crop insurance coverage in 2011. I suggest keeping optional units (not grouping corn fields together and not grouping soybean fields together) rather than using enterprise units, since there appears to be significant yield variability across your farm units. Additional hail coverage might be a consideration for you to buy as well as to protect that "hole" or deductible you describe.

While the cost (premiums) for the RP insurance will be higher because of higher guarantee prices in 2011, you should use as high a level of coverage that you feel you can afford. Don't commit to delivery more than your guaranteed bushels (APH multiplied by level of coverage).

You would be a good candidate to learn to use options to protect the futures price without committing additional bushels for delivery. This makes more sense than building more grain storage bins, not knowing if you'll need to use that storage space each and every year.

Consider buying "put" options this winter, in late winter or in the spring, when the premiums for the options are lower because of less time value. You'll likely be buying out-of-the-money puts and spending up to say 30 cents per bushel. Think about working with a broker who understands your grain marketing plan and your goals, and not getting into selling options or hedging. Also, get your lender involved so the lender can see why you are using "put" options to protect the futures price on additional bushels that you prefer not to commit to delivery.

As you indicate, you may not be able to produce those additional bushels, depending on the weather each year.

If you have specific questions or need details regarding USDA farm programs, contact your local USDA Farm Service Agency office. You can also get news and information about DCP, ACRE and other USDA programs at www.fsa.usda.gov.

Two Iowa State University Extension Web sites have farm program information and analysis. They are ISU's Ag Decision Maker site at www.extension.iastate.edu/agdm and ISU Extension Specialist Steve Johnson's site at www.extension.iastate.edu/polk/farmmanagement.htm.

And be sure to read the regular column "Frequently Asked Questions about the Farm Program" that appears in each issue of Wallaces Farmer magazine and at www.WallacesFarmer.com

TAGS: Soybean USDA
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