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Anyone involved in agriculture knows that one year is never like another, as many variables affect inputs, outputs, and, ultimately, market prices.
Those committed to the sector understand the need to make the most of bumper years to create a cushion for leaner times. Even under favorable market conditions, which currently characterize the cattle industry, producers know that rapid changes could strike and upend plans. Risks are a reality, but financial tools and strategies can help mitigate risk to help ranchers and other operators be successful over the long term.
The cattle industry today offers compelling opportunities, and operations that grasp them can position themselves to strengthen their balance sheets and potentially reinvest for future growth. Commodity prices in the ag space tend to move together, though not in lockstep, in most environments. Right now, however, high cattle prices and relatively low feed prices could contribute to higher profit margins for cattlemen. These dynamics can be preserved, to some extent, through insurance products and hedging. Larger operations often make use of such instruments, but these instruments aren’t for their exclusive use—small and mid-sized operations can benefit as well, and expert guidance is available.
Protect Against Risk
Commodities markets are highly unpredictable as more variables are impacting the markets than ever before, and simply having an understanding of a region isn’t enough to know how prices will move. Given the global nature of the markets, international events can have a significant impact on conditions at home. Plus, while the current outlook for the cattle industry is strong with high prices, an eventual correction is inevitable. Producers who can lock in breakeven prices or better, year after year, are better positioned to ride out any corrections or downturns.
One tool successful operators use is insurance offered by the USDA’s Risk Management Agency (RMA). Operators of any size can take advantage of the Livestock Risk Protection (LRP) program, designed to insure against price declines in feeder or fed cattle. The premium fluctuates daily, and it can be as little as 1% of the value of the cattle. A benefit to utilizing LRP versus traditional hedging is the fact that premiums are subsidized by the USDA. If the insured value is higher than the final price, the policyholder will be paid an indemnity. An ag banker can connect clients to an authorized insurance agent to secure a policy.
That authorized agent may also offer coverage under the USDA RMA’s Pasture, Rangeland, Forage insurance program, created to aid ranchers in the event of a drought. For those who think costs will be too high for the acreage they own, coverage can be limited to the actual acreage needed, in a worst-case scenario, to feed cattle. The payment may be enough to keep an operator solvent, so they can make necessary investments to run and grow their business.
Temper Costs with Additional Strategies
Additional strategies, such as hedging, can be layered to potentially reduce the cost of insurance. Anyone can buy or sell futures or options on the Chicago Mercantile Exchange (CME), an exchange for commodities that moves daily, like the stock exchange. Producers can monitor prices and lock in their future prices now at a comfortable level. Ranchers, for instance, can protect the price of their cattle by buying a put option, which establishes the lowest price for their cattle. Put options can help producers secure some of the higher prices seen today, insulating them should prices drop later.
With input or feed, prices at relatively low levels now, producers can potentially lock in cost savings by buying a call option, securing a feed price, and insulating the operation from rising prices. The commodity market for grains and soybeans tends to shift more rapidly than for cattle, so call options can provide some stability. Of course, there are risks with both put and call options that cattle prices could go up or feed prices down, so operators need to evaluate whether the opportunity costs are acceptable.
Consult a Trusted Ag Banker
Banks operating in the American West often have agribusiness units, staffed with professionals who not only understand the products and services suited to the industry but the region’s agricultural landscape, conditions, and challenges. With their extensive range of clientele—spanning small to large and encompassing ranchers, feedlots, preconditioners, brokers, buyers, and more—ag bankers have a unique line of sight on everyone and on which practices have proven successful. This perspective can be valuable for those who, naturally, are laser-focused on their operations and may not have the bandwidth to investigate new or unfamiliar options.
Additionally, ag bankers should have a robust list of contacts in related spaces to help direct clients to reputable brokers, insurance agents, and others who can support risk management efforts. After all, lenders considering extending credit to an operation not only want to see sound financials and operations, but they also want to know that a solid risk management plan is in place for whatever nature, regulators and global events may throw a rancher’s way.
Everyone is seeking a market advantage to come out ahead, and the cattle industry offers many opportunities for operators of all sizes. Ag bankers can provide guidance and introductions to other experts who can help manage risk, leaving operators free to focus on running their businesses.