Making money with grain storage
Canadian grain farmers, particularly those on the Prairies, have more grain storage than almost any of their worldwide competitors. Storage capacity can be a marketing advantage, but it can also become a trap.
Stories abound of producers storing crops to eventually capture record high prices. Unfortunately, you might also store grain for an extended period time only to sell it for around the same bargain basement price as when it went into the bin.
Grain storage capacity can be a marketing advantage, but it can also become a trap. Here’s what to watch for. Tweet this
Patience, cash reserves and storage capacity can all run short, thwarting a long-term storage plan.
Crops without a futures market
Canola, wheat, soybeans and corn are the Canadian crops comprising the majority of our acreage and all have futures markets for price discovery. However, no futures markets are in place for other important crops including durum, lentils, field peas and flax and a whole host of smaller-acreage crops.
These secondary crops are typically subject to more extreme price swings and sometimes remain in farm storage for years as producers try to wait out market downturns. Sometimes price recovery can be quick and substantial, and in other cases prices can remain in the doldrums for years.
“It can be useful to look at how broad-based the demand is for particular crops,” says Chuck Penner of Leftfield Commodity Research. “Narrow demand can delay a price recovery.”
Penner notes that while all lentil prices have been depressed due largely to high tariffs and lack of demand from India, red lentils have a broader-based demand than green lentils and therefore might have a quicker price recovery.
If the price of a commodity is near the bottom of its historical range, it may be a better candidate for storage. However, timing is also an important consideration.
“Too many farmers will become stalwart holders of crops when they are on the way down from a bull market peak,” says market analyst John DePutter of DePutter Publishing. “As the price declines, it’s hard to sell, because you want the price from last month or last week. But that is often the time when you might best cut your losses and get out.”
Predicting a price recovery is an inexact science, but DePutter notes that a better time to lock the bin and stubbornly store is after a market has seen a deep fall and has levelled out for a while. If the price for a crop has been below cost of production for quite some time, producers can be demoralized about growing it, causing a drop in supply. Low prices can also encourage additional consumption.
Using futures markets
Sometimes the medium-term reward from storage is transparent. Cash prices in deferred months are higher and the price difference is more than enough to pay for interest charges and storage costs. However, DePutter notes there are times this “carry” in the market is reflected in futures prices and not in the local cash market.
In that case, he says the best approach may be storing the grain and hedging it with a premium-priced futures contract for a deferred month. In the case of wheat futures, it’s very common to see deferred futures contracts trading at higher prices than nearby months.
DePutter also advises producers to not misinterpret the market signals coming from futures markets.
“A farmer might look at the better price offered for deferred delivery and just think that they can wait for that timeframe and sell then,” DePutter notes. “Problem is, often the premium for deferred positions will erode down to the cash value by the time you get there.”
Meanwhile, Chuck Penner notes that it costs a brokerage commission every time you roll a position to another futures month, so you can save money by picking a month farther out.
What does grain storage cost?
The time value of money is the first obvious cost of storing grain. If a crop is worth $10 a bushel and you store it for a year, the opportunity cost is 50 cents a bushel based on an interest rate of five per cent. You can adjust the interest rate for what you feel is appropriate.
But what about the actual cost of storage if you have to purchase additional bins? Alberta Agriculture has crunched some numbers for different types of 5,000-bushel grain bins with assumptions for purchase price, set-up costs, depreciation, repairs and maintenance and interest on the bin investment.
The annual cost ranged from 22 to 25 cents per bushel per year. Adding this to the time value of money on the value of the stored grain provides a ballpark estimate of storage costs.
What does grain storage cost? Alberta Agriculture crunched some numbers for 5,000-bushel bins and found the annual cost ranged from 22 to 25 cents per bushel per year. Tweet this
How long can you store?
If a crop is a relatively small percentage of your total production, you might have the capacity to store and wait for a considerable length of time. If a crop or combination of crops are low-priced, but make up a significant portion of your production, you might not have the cash flow or storage capacity to wait out the market.
Extra storage capacity can be added and may be a good investment, but it comes with a price tag.
When prices are disappointing, the natural emotional reaction can be storage, but storage plans are best when they’re calculated and strategic.
From an AgriSuccess article by Kevin Hursh.
The payback period and discounted payback period are two useful methods to evaluate the time it will take to recover the capital outflow of an investment project.