In my opinion, I thought for a little while this week that Monday and Tuesday's sell off would form a bottom. After hearing of tremendous losses at present, with expectations for losses to grow immensely, I am not sure that all producers have their cattle marketed or hedged. I've heard most everything from "I could have done a better job managing risk", to "I blame everyone but myself for being involved in this decline". Regardless of which side of the spectrum you are on, it has been a sharp decline in price, because the price was too high to entice consumers, whether domestic or abroad, to continue to pay the higher beef prices. As well, the Federal Reserve told us over and over again, they were going to stamp out inflation. This apparently fell on deaf ears, or was thought to not have an impact on cattle. Rationing is believed upon us. Rationing is as normal of a function as there is anything else. When you have too little of something, you have to ration it.
The industry foreseeing the shortage of cattle to come, divided into two camps. Camp one said that in order to survive, we should ration cattle. That suggests growing them bigger, discovering alternative cattle breeds for beef, keeping the retail price high to discourage demand, and increase imports. Camp two said, there are no more cattle and we have to own them now or never get the chance to. Camp one won out in the first of the year, but obviously, the slow, methodical rationing plan of camp two has now begun to work. Low and behold today, we are just a few thousand head short of 12 million on feed again, with weights gaining, and a new import line of beef open. Recall that 12 million head on feed was considered burdensome at one time.
The division of the two camps has created a fiasco. It is anticipated to take months to stem the losses, as feeder cattle prices today continue to reflect a break even above current all time historical prices for fat cattle. Basis has swapped tremendously favorable towards the cattle feeder. If you are going to continue to feed cattle, and believe expansion will take place at some point in time, then buy the feeder cattle where they are the cheapest. That is on the board. If you do not want to buy them on the board, then hedge the physical purchases with a fence options hedge that consists of buying the at the money call and selling a $10.00 to $15.00 out of the money put. At expiration of the futures contract, you will either be buying cattle cheaper, at the short put strike price, using proceeds to help pay for the cattle, or you buy them somewhere in between the two strikes and add the premium paid for the option spread to the purchase price of your inventory.
Backgrounders are seeing margins shrink at a rapid pace. What was detrimental to cattle feeders the past 12 months, has become so for the backgrounder. The ability to hedge with the absorbent premiums that futures traders provided producers, was the best thing to ever happen to backgrounders. The ability to hedge at higher prices produced significant profit margin, even if early in hedging, due to the wide negative basis spread. The basis has swapped now and there are no premiums to market newly purchased calves against. The favor has turned decisively towards the cattle feeder when procuring inventory for less.
This week, my indigestion or intuition began causing me to lose sleep. I have been anticipating energy to move sharply higher, and beans as well. Neither have done what was anticipated. By Friday, the high volatility in both beans and energy, led me to anticipate a sharp movement in price. Unfortunately, with bonds moving higher, suggesting the Fed's job of quelling inflation is working, it leads me to anticipate a selloff in energy and soybeans, rather than a rally. There is no doubt in my mind that if prices start moving higher, it will have been the market just outlasted my wits, which would not be uncommon. Until then, I anticipate energy to soften and beans trade lower. Topping off farm tanks won't have much impact on production. If fuel for spring planting needs have been booked, I don't have any regrets in that recommendation, simply due to your need of it, it remains a long time before planting, and I could be wrong on me being wrong.
Bonds continued to move higher this week. The Fed's presidents are talking more dovish, and consumers are believed starting to actually have reserve in their spending habits. Lastly, gold has moved sharply higher. If gold is an indicator of inflation, and inflation is not taking place, it suggests gold is being bought as a store of wealth outside of prying eyes. Bitcoin is perceived as a similar type derivative in that currently it is unregulated, and can still be used for purchases outside of government oversight. It has been gaining ground as well. These two markets were a large percentage of my thought process that gave me the indigestion or intuition. Maybe my timing was off, in that a bout of recession will come first, and then when the Feds have to bail out all the cities and municipalities, the inflation skyrockets, as production of most everything will be cut during the recessionary time frame.
Christopher B. Swift is a commodity broker and consultant with Swift Trading Company in Nashville, TN. Mr. Swift authors the daily commentaries "mid day cattle comment" and "Shootin' the Bull" commentary found on his website @ www.shootinthebull.com
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