Bill Mann, like scores of farmers across the country, uses options and futures to set a price floor for his corn, soybeans and wheat. He views selling futures or buying put options as a form of insurance, since they lock in a price.
But he doesn't limit himself to the "sell side" of the market. He'll do the flip side, too - buying futures or call options in order to protect against a price rally. That's also a form of insurance.
"We protect cash sales with options," says Mann, who operates a 2,200-acre farm near Merom, IN. His 1999 marketing plan stipulates buying equal amounts of puts and calls, although not necessarily at the same time.
The call option relieves Mann of the worry of selling "too soon," if, for instance, prices should rally a dime after he sells. Owning the call option gives him the right to buy the underlying futures contract, so he still captures the benefit of the rally even though he's already sold his grain.
Mann says he'll probably forward contract 50% of anticipated 1999 production, buy calls on 50% and buy puts on 50%. While that adds up to 150%, those puts and calls can be used on any portion of his crop as insurance.
The puts will be used to establish a price floor for the unpriced portion, and the calls can be used to cover the forward pricing and cash grain sales in case of a rally. He'll store roughly 25% to carry over into the next year.
Mann and his son Jeff do their pricing via historical trends and day-to-day technical charts. He does not set specific price targets for his cash pricing decisions.
"Some marketing plans figure the cost of production, add 10 or 20%, and target that. That isn't my strategy," Mann says. "Until I grow the crop, I don't know my cost of production, and the market doesn't care what it costs to produce my crops."
Historically, the better time to buy call options is from December to about mid-February, Mann says. Usually the best time to buy put options is from April to the beginning of June.
"Markets peak or bottom ahead of when people think they should. The highs are often reached when the crop is being planted," Mann says. "That's when you buy your puts."
Mel Brees, University of Missouri extension farm management specialist, says call options can give farmers more confidence in making decisions to sell cash grain.
"Too many farmers sit on grain in the bin. They're afraid to price it because of a possible rally," says Brees. "The basic strategies should be to buy a put to lock in a price, and if you make a cash sale, then re-own it with a call."
If prices rally, the producer will reap the added gains. If prices don't, the farmer can offset the call with a put and get some money back, or simply let the call expire. Mann admits that the premiums for buying both puts and calls add up quickly, but says the risk reduction justifies the cost.
"If I spend $5,000 or $10,000 in options premiums, that may work out to be $3-5/acre," he says. "I just figure that as another input cost."