Focus 580; Futures 101: Explaining the Risk Management Options and Futures Exchanges

Good morning everyone you're listening defocus 580 here on AM 580 your information advantage. This is Dave Dickey director of agricultural programming at the radio station with a special show that we're calling futures 1 all 1 explaining the risk of management options at the Chicago Board of Trade the Chicago Mercantile Exchange and other futures exchanges as Todd Gleason and I travel around the countryside speaking to or doing sers one of the things that we hear quite a bit is a desire to learn more about how to hedge another in-use other risk management tools on these exchanges. We also hear this from listeners as they listen to our agricultural programming on this radio station. They say well it sounds kind of interesting but what the heck are you guys talking about. And so this morning we thought we would combine the two. Give our listeners a chance to learn a little bit more about how agricultural markets work as well as talk directly to our producers so that they can get their questions answered about how to hedge and how to use risk management strategies so alongside with me this

morning is Todd Gleason who is the host of the closing market report as well as commodity week and in the studio we have University of Illinois associate professor of agricultural and consumer economics Yost. Pending. And on the telephone we have Michael Sousa Lo who is one of our regular analysts. He speaks to us every Friday in the morning and in the afternoon he was with Mr. risk management commodities out in Lafayette Indiana. And your calls are also welcome during the hour. Our studio phone lines are 2 1 7 3 3 3 9 4 5 5. Or toll free at 1 800 2 2 2 9 4 5 5. Gentleman welcome to the show. Good morning Dave it's interesting to be in studio with you live when usually you and I are in studio a bit together but not where we can have a conversation I think it should be. Well good morning good morning to you to Yost and you lot Mike. Thank you.

Let's begin with this and I want to start with Mike and ask him. You know you've done brokering for quite a while now and probably have done some charting too. You know folks using the cash just going ahead to the elevator and selling as opposed to using some risk management tools. Even some very basic ones as you do this charting. What can you tell us about how use of risk management helps improve profitability. Well at the. That brings up a really good article that we want to talk about a little bit this morning if we had time Dave. It goes back to an article written in a big magazine earlier this spring when it talked about using Chicago Board of Trade options and re ownership with crop insurance and the statement was made. The more risk you take the more reward potentially there is out there and that goes against about every fiber of risk management both in terms of professional risk managers for when it and in terms of what we do what even

Wall Streeters do hedge fund managers you know the big guys out there much bigger than a risk management is a calculated risk type mine. So when you go into just a cash marketing mind you're limiting your ability in many times. Especially before planting you're limiting your ability to manage your risk more successfully and what we were taught. You know what I was taught 10 years ago when I started getting into the was. It's very simple. Look at things over a longer term a longer average if you do something consistently like risk management over a span of seven to ten years. Look at the average of how much better you did using the risk management don't use one year or two years to judge yourself on. Give yourself time to get better at it and look at it over a longer scope. The same question for Yost. I know that you teach these strategies here at the University of Illinois but you probably have to have your heart involved in it in order to in order to really believe in it and so you probably have done some studies and done some number

crunching as well in terms of the cash versus using some of these strategies. Yes we have done a lot of research at you by looking at different hedging strategies and how they impact profitability and full of guillotine returns. I would like to stress that using Futurists is mainly the main goal is managing your volatility. I'm always getting nervous if we're going to talk about how futures can increase your profitability. It is all about managing your full of pity and for some pharmacy managing filter that you may not be that interesting because let's say you own your lands and you don't have that then you can take a risk. And hence you don't hatch. And basically if you don't hatch and you're only going for the cash then you're by definition speculating. But I think most of the farms out here in the Midwest. They don't have that looks reposition. They need to manage risk and they can do that by using futures

contract at the border all the merch and basically by doing that you're going to reuse the volatility in your revenues. And what we see is we can look at for example. So this was farmers in the Midwest. And you see that most of the time young farmers and large commercial farms that do have the land a lot of land that they rent and they use these contracts these risk management tools in order to manage their revenue and be able to survive because I think in the long term the the goal of a farmer is maybe not to make a short run profit but to survive and to pass the farm to let's say another family member. And when that is your goal I think I will freight and more work really good instruments to obtain that goal. Well let's back up just a quick quick moment and ask you to define a couple of terms that you threw out there one was volatility and the other was hedge what are they.

Volatility is is a term that we used to describe the extent of fluctuations in prices. When I talk about hatching I mean that you take a position in the futures market and there by looking in your price for future delivery. So when you will follow most of the time what you will do is you are going what is called short so that youre going to sell lets say a corn contract or soybean contract by doing so you are basically fixing your price in advance. This does not necessarily mean that you are when the country's going to expire that you are going to deliver the corn and soybeans. In the Chicago Board of Trade in Chicago no. Most of the time what is going to happen is that you are going to sell it to a regular of the solution channel to your regular elevator but youre going to lift your hatch. The difference that you make on that transaction so you salt and then you buy back that difference can be positive

or negative. If you add that up was the price that youre going to see from your elevator to get it that will be exactly the price for which you thought the futures market might go when you work with people. Is this the kind of hedging that most typifies what goes on the simple selling future hedges in the hopes of garnering a better price down the road. Well it should be and I think thats were Doctor planning. And our philosophy really match up we like to manage risk we like to be calculated risk takers. The analogy we always use in seminars is we don't go to the plate when we make recommendations that hit home runs because home run hitters statistically have a tougher time at bat in terms of you know getting a base hit every time than a guy that goes up there and tries to hit just the base to the pressure it seems to be and in marketing the pressure is more reduced.

When your expectations are not so aggressive that's been my personal experience is that you always have the Dale Carnegie approach of what if I'm wrong when you take in a calculated risk or risk management technique. But I think more to your point question Dave is many today because options have been around quite a while in agriculture they take the strategy that is a really a hedge at all. They desire to make both money on paper with their hedge technique and the head is not off by an improved selling price. That's the. The layman's term definition of a hedge you take the cash selling price minus your loss on paper that your hedge. And that's how successful or how much failed it was. You bring up options and that's an interesting point to talk about particularly given the fact that I believe a lot of producers don't like the U.S. techniques because they are afraid of margin calls on the Chicago Board of Trade for regular futures contracts and options gives them another way of doing it.

That's right and you know Whirlpool put the will put the lay the blame so to speak at our own feet as an industry. Our opinion would be at risk management auntie's opinion would be generally speaking we've done a pretty poor job in our industry explaining and educating producers how options work and it doesn't have to be complicated to the point where they have to understand every Greek term that a board a trade trader throws out at them and so the first step to to our mind to select a price that you're going after and select a time period you think that's going to happen. That right there will help decide whether you need to be doing futures or whether you need to be doing options. So that's a very big step that many just simply overlook. You know what how how do people use option strategies what is the basic concept of option strategy in terms of managing your risk. The options are very interesting instruments with futures you fix your price in advance with and hence you cannot benefit from favor all price

changes with options. When I'm talking about a put option is the right to sell for a particular price often called the strike price then basically you put in a floor for the price that you're going to receive for for your grain. So from that perspective an option is very interesting because you have that floor. But if the price is higher than that floor price then you're not going to exercise your option instead you're going to sell for that higher price. So you have a nice floor for yourself of course that right comes at a cost you have to pay for that right and scolded option premium. I agreed that options are often perceived as a little bit more complex a futures contract that has to do with the fact that option contracts have more correct arrest IX. Yeah you're talking about the strike price. You're talking about the product of option is a futures contract so basically you have a marketing channel of the river that you have the cash market above that you have the futures market and above that you have the option market

because the Board of Trade and the more the option is not on the cash product but the option is on the on the futures contract so if you would like exercise your option you would get a futurist position. What most of the time is happening is that you're not going to exercise your option. But if you bought it you simply resell it and you could show easily that you can manage your or your risk very effectively using options and basically your manager has called you downside risk. You have your floor but you can still. Profit from favorable price changes. Mike there's a couple of terms and options that are getting thrown around quite a bit there. Puts and calls what are they. Well the put is the right abought Hood is the right of the person buys the corn put has the right at that strike price in other words if one would buy its number of corn to 40 foot for 23

cents. They are paying 23 cents. You have the right to exercise that option. In other words at any time they can call their broker and say I'd like to take that into short futures. And at 2:30 or excuse me 240 the strike price. You sacrifice your option premium at that point and you give that 23 cents to the market and then you have a short futures in place and that's only bought put the right to go ahead and exercise the put in the short futures a bought call is the exact opposite. The exercise right. The pay the premium to go along futures and you know a couple other terms that are very important when talking about this is to give you some real term examples of December 240 corn foot right now if a farmer would call and say I want to buy that it cost around 23 cents a bushel. For a five thousand bushel contract now December futures is around 235. So the 240 strike price minus 235.

Price in December means that 5 cents out of the 23 cents a premium is actual intrinsic or real value. The other 18 cents is what the market calls extrinsic or time value. We don't really like to use the word time value Dave simply because when you think of time value you leave out what Dr. Pennington talks about. That's the volatility the two primary components of that extra 800 cents that you're paying is both time and volatility. So when we talk about that with clients and we say there's 18 cents of extrinsic value there that boils down to about two and a quarter cents per month until the option expires that you have to pay to carry that option. And when you start talking unit in this lie then clients start to understand what the putting the pieces of the. Will together with what they're doing in their belly and in their cash marking program. You're listening to focus 580 on AM 580 we're talking about

exploring the risks associated with selling crops at the Chicago Board of Trade and how to protect the downside risk of that. Our guests are University of Illinois associate professor of agricultural and consumer economics Yost Hennings and Michael there's a lot of risk management commodities. Your phone calls welcome as well. You can do so by calling us at 2 1 7 3 3 3 9 4 5 5. Or toll free at 1 800 2 2 2 9 4 5 5. Yes you do some work on for the for the Chicago Board of Trade as well as the Mercantile Exchange with the Office of futures and options research. What do you do and what is it. Well let me first explain the office of futures and options research. Illinois has a very long tradition with respect to developing helping to develop new futures contracts for the agriculture community. And

about 10 years ago we formalized that and we formed a group called the office for future research. It consists of faculty members from the Department of Agriculture and Consumer economics and faculty member from the Department of Finance in the in the business school and we all are interested in futures and options and we conduct research with respect to hedging effectiveness that is how well can farmers Hatch you know risk questions that always arise is what would be my hatch rate show to this. What percentage of my crop should I hatch. And if I do so what is the reduction in the fluctuations off of my revenue. Another branch of research that we do is that we help the exchanges to develop better contracts that will better reflect the needs of the farmers community so we were a lot of great local exchange all developing new contracts but also basically revising existing contracts or basically tweaking a little bit the contract space figuration

because over time the needs are going to change the industry structure may change and hence. The contract needs to be changed because what we want to do is to try to minimize what's called basis risk. When you trade futures or options you have always the basis risk because your local cash price may be different from the price as defined by delivery. That should not be a problem if you can predict the basis on the sink. Brokers are helping farmers to to understand that basis risk and we try to help farmers by developing contracts that minimize that basis race Jojo's TOG Gleason here by the way. Yes when you talk about setting the parameters by which contracts are are traded with the board. Things like expanding the daily limits and most people remember the corn traded at a dime. At one point would the office of futures and option research have something to do with how those specs are put together.

Yes we are. We advise and work with change on these things often they come down to champagne and and we talk about the challenges they face. And with the help of all scientific research we help to guide them in how to change complex space for patients and again that the goal is to have a futures contract option contract that really fulfills the needs of the producer or the agribusiness company because that in the end will yield high volumes and liquid markets and that's very important to have liquid markets or what we call deep markets so that you can easily sell and buy your futures and options. You threw out another term liquid and oftentimes we talk about liquidity What does that mean in the marketplace. Liquidity means basically that you can execute your orders so if you're going to sell to buy a futures contract that you can do that against what's called a Calabrian price. What you will see in the other countries or even so much change in Canada if you are going to

enter that market is a large sell order. Then you see that the price is going to change in this case is going to drop not because the fundamental changed but simply because the market is not that deep. That is there are not many people on the other side of the market and we have very lucky here and in Illinois you have to exchange that oil relatively liquid. Hence pharmacies can easily get in and out of their positions. One of those would be of course be Chicago train. The Board of Trade in the Mercantile Exchange in America go so so let's talk more about expanding these limits of the Board of Trade because historically if you look at the price of corn in the price of soybeans why they while they have very they haven't over time changed very much. So why would you need to expand the limit by which they trade on a daily basis. Well one way to distinguish price limit is always get if you hit the price limit.

After that you don't have any coach anymore right. So then basically you don't have a real market although that we all know the look and research in which we can extract basically the futures price from looking at the options because clearly the option value reflects the lying futures contract value aswell. Price limits initially were used because if if the price is going to increase will decrease by rapidly. That has a consequence for people who are let's say on the wrong side of the market and hence you get margin calls and those price limits basically allow them to make up for the for the margin requirements and basically to reduce the risk of the clearing house. I see that by the phone lines we have somebody on line number four that's a toll free line if you want to call and by the way that number is 800 to 2 2 9 4 5 5. Otherwise you can call in on our local number 2 1 7 3 3 3 9 4 5 yos Pennines and

Dave Dickey and myself along with a lot of risk management communities incorporated on the air this morning taking your questions about the futures market Good morning to you Lie Number Four How are you this morning where you calling from. Just fine. Well Jim what's your question for the day. You have been discussing how these futures and and various things are doing with commodities. I hope your farmer makes money that way but how do you look at the others. Side of it with the commodities of going to G and things like that seem to vary in the futures too and affect your farming operation like you want to take that one. Yeah I mean it would be about the same in terms of practicality and you know in terms of getting the job done and you know reach it go after a goal and try and reach it as far as the same type of principle. You know one thing that sparked me to think about when Dr penning was talking about liquidity with Todd was you know after all most of these exchanges are still

even after all the computer technology are still an option. Every buyer has to be matched up with a seller that is something that is truly amazing when you go to the boards into these exchanges and watch even with computer trading now. And that's why that's why it's so important the day traders are there to provide that needed liquidity you know to give us a potential buyer to match up with a potential seller but getting back to the question at hand is there are a lot of reasons I give you for for practical example for the listener. We have a very high crude oil price right now in natural gas price and ammonia price we've tried very hard to buy hand of mouth with our clients. It's gone to the point where they have to lock in diesel for spring they have to lock in anhydrous for spring. So what we're doing is actually saying go ahead and do your locking in of that energy sector but be there in case the market falls. The futures market may very well indeed fall and it has started to already in the

cash market may not fall at all because of the demand that we have during this time of year. So go in and buy a put for example and go short the market by buying the puts and that way is what you bought at a high price in the cash. If the market would fall you would theoretically then be able to tack that profit that put profit on top of what you had to pay for very expensive cash energy. If you worked with the energies and how farmers are to use them as well. Yes I think that the caller has a very good question because you know when we talk about trading futures and options we often talk about price risk. But in the end of the day nobody's interesting in prices. We are interested in net revenues as a farmer and hence what a farmer may consider with the help of the broker is what I call a multi product hatching that is you use different types of futures contracts to manage your profit margin. And the caller indicated one of the big issues now days is in the input side the energy complex. If you

look at fertilizer. So it is wise to when you're really looking at Risk Management you're talking about risk management of your net revenues then that is not only managing your price risk by selling your beans and corn but also looking at the input sites and we right now are the energy complex is very volatile. And a pharmacist can use a few chose to to input cost. These are types of futures that have not been use a lot in the past. I think when you look at the energy complex and changes that we observe is that more and more farmers will be interested in looking in these inputs costs. Doing that will make that time a little bit more complex because now we are dealing with a whole set of futures contracts in order to manage your net profit margin. Then I think farmers may want to consider some help off

of the broker because then it can start to to get complex. We have more callers on the line on line number one do you have a color question for Yost or Mike or both. Yeah. I was wondering I've seen you know you always hear yours here about who's the smart money and. And sometimes you hear you know classic position of the market is when the funds are long and in the OR with the funds on one side and the small specks are on the other side you know classic position that the funds are going to outdo the small specs and then the market is going to is going to go in that position in that direction. I was wanting or are there any. Just excess to what. What classes what classes of traders tend to statistically be well in the market whether it's the commercial or the funder the smaller the are not reportable Yost. You want to take that one.

Yes off to this very good question we get this question all the time. My reaction is maybe that's not the answer that that listeners want want to hear but I don't believe that you can predict prices. And we have all the econometric tools all the signs behind it and still we are unable to do it because if we were able to predict prices I would not be sitting here but probably I would be on the beach and enjoying my good you know and joining myself because if you were able to predict prices then it means that you can make money in these markets. I'm very skeptical about a lot of store studies scientific studies that look at different classes of participants in the markets and how they perform. What you will see is that the performance all these different classes of what this means. It is not does not too much difference

between these classes of participants so in the long run I'm very skeptical to pick one of the classes of but this ones that are doing systematically better that is. I've never seen that put this way I've never seen a class of but this ones that was able to beat the market along in the long term. Let's talk a little bit more about this and we do have another caller on line two line when are you done or do you have another question. OK I guess I'll just ask one more question in a listener on the air off the phone. I just want the one reason I want to at least one reason I asked was I remember the funds had a big long position last summer on like almost all the way down. I guess the other question before I hang up is what about what about OPS and they also remember options were like a $3 corn was like 60 cents last summer's something outrageous like that who tends to make sense to make money on the options the buyers or the sellers thanks. Is there any indication on who makes more money in in those in the long run.

It's very symmetrical markets so you can all say debt bias all the sellers all making systematic money now and then. We talked about hedge funds and over this last several months we've talked about index funds and they're run up by pushing the marketplace especially the beans higher. Is there a difference between the two and just exactly who and what are they. What you see you know days is that I googled the commodities are received a lot of attention recently because hedge funds want to. Compliment open folios with agriculture futures hedge funds mutual funds but investors in general what they try to do is to optimize their risk return trade off the of the portfolio and you can sing about it before you offer some bonds and some stocks. What you would like to do is that you would like to increase your return of that portfolio. This

hout increasing your risk and there are studies out there that show that if you are adding agricultural futures to words such a portfolio that indeed you could increase your return without decreasing out increasing your risk and hands at risk return profile becomes better for investments and we do see that these hats ferns are. Interested in taking positions in agriculture futures markets often what they do is they have a very simple strategy. They will always go along often in a nearby contract and rolls over and that's basically for them having a position in the cash mocked without having all the troubles of having you know a cash profit because you have to store it and so on they don't have the capacity nor the knowledge to do that. And one way to be involved in the cash market and for these funds is basically to be

always long in the futures contract. We have a caller on line number two go ahead caller. Right. I've got crop insurance. I wonder I've read in some foreign magazines buying puts pretty high level crop insurance may be doubly ensuring yourself and ask actually giving you a little more risk or would you comment on that. Yes. There are a lot of studies nowadays about a combination of revenue insurance products that are available and option contracts. What you will see is that most of the studies showed that there are sometimes substitutes with respect to insurance and put options. So initially my answer would be yes to your answer. But if we look at what farmers are actually doing and that is based on a large

scale survey we conducted about three years ago and the United States is that we observe that sometimes farmers use insurance in combinations of options and that can be very interesting because you may decide to insure part of your crop and use put options for the auto part of your crop so you have all kinds of strategies. And its rather easy to calculate the risk return of these strategies. If listeners are interested. We have very nice of that page from doc page most most listeners will be familiar was that in which you basically can calculate you know different scenarios if I have insurance was with options and so on and so forth so what we're familiar of course with the crop insurance calculators are there but where or where is this on the farm doc page. It's may not be on the phone book page but there are

programs and I'm not sure what did you have. What do we have them on the web page yet but there are some programs one of them is called the act risk I believe that takes all these interaction between the two into account. I have to admit that these models are our models that all still we are still developing because we have some strong assume about the objective that a farmer has my car. How are your customers using crop insurance in combination with options and what do you tell them about it. But the great point you know this year is completely different terms of the February average price in corn especially so. I think that's probably number one on our list is that the question to the caller had the answer starts out with what the February price starts out as far as what your indemnity and what you're going to be able to protect is absolutely crucial to whether you use a combination of options and crop insurance or not. The other thing that always has to be covered is the extra bushels needed to be covered

with that crop insurance does not cover because of the a PH and how much lower it is. Even with a high level of 85 percent of your normal yield you're still leaving out a pretty significant percentage of your actual crop if you have good yields and you're going to have the need to cover that in some aspect of Thirdly it valid point is what the problem with the question. Give to to the listener as we design a per acre fee for clients so that they just pay for our price analysis without the idea of really using very many options at all and a lot of the people that we work with in the crop insurance industry really like this because we do meetings together and you know it's a natural fit in that respect and you know for us it seems like the government is probably moving towards the crop insurance agency they are M-A out there is probably moving toward an end where it does give you more and more price insurance as much as it does give you actual indemnity against a crop failure and so it's a work in progress at this point.

Mike Mike tell me you mentioned that it depends on what happens in February or some of the crop insurance is figured on that monthly average in February. What's the difference for instance and how farmers might use options this year as opposed to last year when we have a low price as opposed to the high price. Well one would be the level of coverage and that would be the first thing on my list would be if you start out lower this year and you have to take a higher level of coverage. You get close to the same per acre guarantee. Is there going to be a more cost effective way of doing it I think that's probably we think crop insurance is absolutely crucial but we also think that the other available tools out there are absolutely crucial to look at too and it goes back to that managing risk. What is best on a per acre revenue basis like Dr paintings talk about during the energy commentary that that these are real big big issues that we see very often times just leave out when we go ahead and take the crop insurance or by the poet by the calls you know to the futures market. So let me double check with this you're saying that in times of low prices like this

year that there may have been some advantages to doing the options as opposed to the crop insurance. That's right because if you start out with a lower February based price you're going to have to buy a higher level that's going to cost more per acre. And so in certain areas of the country if you look at that on the farm doc web side and other you know calculators you'll see that a 7 cent corn foot which is you know you take 190 bushels times 70 you take that per acre and or 150 wherever you live you know where you cover the a ph that cost per bushel on the foot or the call whether the crop insurance does a better. Job on a revenue side and or bushel side as well so that you're correct in your assumption that the lower you start out in February generally speaking you're probably going to move more towards other tools to cover your risk. Just as a reminder if you'd like to join our conversation please call us at 2 1 7 3 3 3 9 4 5 5 that's on the local line or toll free at 800 2 2 2 9 4 5 5 that 9 4 5 5 is W

while of course our caller from loving TN has one more question go ahead. Basis do you have any suggestions on how to lower buy Bass's cars. Is there a way to do it either just store yourself on the board. Thanks. Which one of you want to take that one on. Maybe go ahead just icing that debases as search. It's never a problem when hatching because if I know debasing events I can take that into account when I'm going to hatch. The difficulty for farmers is that debases may fluctuate and hands down from what was called a basis risk. Clearly we have all kinds of factors that determine a bases like a distance the quality local demand supply for the farm and the challenge is to try to predict his or her basis. When he's going to to lift his his hatch

and we have done a lot of work in that area at you for at least four years and trying to better understand Bass's behavior. So but to answer the question having a baby is no problem because you know if you're bases three cents under then you know if you're going into the market for 250 then effectively you're going to receive a prize of forty seven. The problem starts when that beige is unpredictable. And Mike if you could and I know a lot of the listeners will know what the term basis means but if you could explain basis and what it what it what it really does mean. Well if it's a local issue too. That's the big thing is that's just the difference between the lead month futures they make or in right now of versus what your local elevator is offering that difference in price will give you a basis and it can be positive in low supply years and often times it is or at certain times when the cash demand and then the producer the pipeline demand is

greater than when farmers normally sell and will fluctuate to a negative basis when when the the man is not as good as the real good tools to understand how badly the supply is needed and that's where as farmers generally speaking and as and as risk managers generally speaking we tend to fall down when we see high prices. We tend to want to hold on to that commodity. But we are price takers after all we are the supply side of the market after all and we we should over a course of you know longer term if we tend to reward the market in good basis times will come out on top as opposed to storing it in the bin and you know the other thing we have to talk about is this the perfect year in corn. It really paid to store some beans after harvest but in corn it's a good example was in big supply years. It's very hard for an improving basis even if you get the basis improvement it's very hard for that to offset a declining futures market because the elevators the commercial operators will see. Futures is going up and so they'll take the

bases down or they'll see that the basis is going up. The futures is going down so they'll take the basis up keeping that net cash price. The exact same. So in big supply years it's very hard after harvest especially to see an improving basis on the declining futures to where your net gain what you stored in the banner. You know even worse a few commercially stored after harvest. So what you're saying and I'm I'm not I'm not going to say that this is exactly what we're talking about but there is some disconnect at times between the cash price of a commodity corn beans cattle hogs and in the futures exchange. And yes I want to know if you've done some research on how much often that is maybe the case and how good really the Mercantile Exchange in particular and the border trade are at actually finding a price for the commodities they trade. I think we have to really understand Bay's behavior you have to make a distinction

between a stroll commodities unknown storable commodities for storable commodities. We do have that. It's more or less theoretical price relationship between cash and futures because of storage. I warn soybeans wave. Yes correct. OK. And I do believe that when I look at basis changes basis risk garble fate is doing a rather good job in minimizing the base risk for a full producers when I look at the livestock complex Chicago motel exchange. They all trade in what's called Norm storable commodities hair to Basie's is much more difficult to predict so people who are in the in the lifestyle will face much more problems with respect to Barry's risk then people more on the green side. One of the sayings that we do at the office for future research is try to design contracts such that the basis risk is minimized for produce.

How do you do that. We try to look at the factors that drive the biggest risks or the fluctuations in the basis the uncertainties. And maybe we have folks sample have to add in all the delivery point. Maybe we have to look into to the quality that is specified in the contract and compare that with the actual quality that is produced. Seems like. Local supply and demand. Sometimes we have some congestion on the railroad track that that can induce almost on basis risk. So all of a FS things that we can do by working on the school and track space vacation terms in order to reduce that basis risk. Again for storable commodities like soybeans to corn and the wheat that is a little bit more easy to do then when you move into the life stock complex that is

simply more difficult because we don't have necessarily that Tiretta go relationship between cash and futures because we cannot store these commodities. We're coming down to the close of the show but there is still time to get your question answered. Again our phone numbers are 2 1 7 3 3 3 9 4 5 5 that's the local wine and toll free 1 800 2 2 2 9 4 5 5 good just about anywhere by golly yes. What about new are growing future markets in Illinois. Are there. Yes it's very exciting the futures industry right now first of all the record volumes. And boasted the Mogen Chicago Board of Trade with what we also see is new exchanging coming up. The new exchange. Establish that has that have already proven commodity futures trading committee so we see an renewed interest in agricultural futures exchanges. One

interesting commodity is milk. Milk is not traded Thich last free bird or class for its trade at Chicago Mercantile Exchange and we see that these markets are doing very well. Has also to do with the fact that the dairy complex is changing very rapidly in the Midwest we observe more and more large scale dairy farms that are in need of managing the risk. We got a lot of calls from dairy farmers that want to manage risk. As you probably know we had very low prices not long ago and we had very good prices not long ago fries are more volatile in that mill complex. People want to manage the risk and the farms are contacting to you if I fall for help and it's interesting to see that volume at the merch is. It's not a super big contract yet but I do believe that the dollar complex is very interesting as a very good future ahead in that.

Durgin David Icke and I will take up the possibility of adding milk futures into the list of things that we use regularly here on the oil. Absolutely you see an increase in milk production here in central Illinois but especially also in on the Indianness you seeded illogical dairy farms coming up so yes that doesn't need for more information about the milk futures contract. We have a call on line one from a cell phone. Good after Good morning to you. Well yes but ok. Really. Related to agriculture but it is in a way because it is the cause. I just wonder if you could talk about interest rate lock in an interest rate future through options or future prices. And I'll hang up left and right thank you very much I think that call may have come from on a silo in fact I'm not quite certain about that but I recognize the voice I'm fairly sure. So about interest rates what do we have to say Mike. Well it's a lot harder to lock in interest rates from a standpoint of liquidity and volume in some of the sectors you know the

benchmark 10 year bond at the Chicago Board of Trade at the benchmark for the Federal Reserve now and their debt used to be a 30 year. But that's probably the best way to go after locking in it. But you have to be very careful It goes back to the energy complex when when we talk about hedging that's a loose term. You call an exchange and say I've got a farmer that buys that buys crude oil or diesel fuel or whatever and interest rates and he's a hedge or they'll say no he's not because he's got to meet a certain number of contracts and so. That goes back to working with your accountant and that we don't mean to make things more complex but you've got to dot the i's and cross the T's at some point. Work with your accountant work with your broker and see what the hedge of a commodity but short and simple answer from our standpoint would be the 10 year futures at the treasuries at the Chicago Board of Trade are probably the best way to hedge interest rate fluctuations. A lot of people agree in our analysis would suggest the same that you're hitting a 40 year low and

you've got to have a much harder time keeping interest rates low especially if the housing market slows down. So it's a good question and something to probe into and and possibly lock him closing in on the end of the hour here about three minutes left I do want to know how producers might learn more about getting started in using risky market strategies from the University of Illinois and then we'll let Mike take that on from his his end as well yes. Yes. Well the initial research we expend basically or all base we just hired a new fizzing director will fill Fusional some research and we all working on getting together a program which we. We are able to talk with farmers and educate pharmacy on the usual futures and options. Clearly we do offer courses at the U of I campus and fact we do three courses one in the fines department two in a college of agricultural futures and options we have a wonderful outreach

program that is already working on futures and options but we are going to extend that so in the near future future I hope that fall will be able to work with farmers and educate farmers to get a was Brokaw's to to learn more about how they can manage risk in these volatile times so to speak with it would you expect those to be outreach programs where you're actually going out into the countryside or will they be by computer and internet or by teleconference What do you think. I think as when you're talking about one to one. Future an options I would prefer to go out and really meet with the fall Morris listen to Joe or to the questions because it's very important when you saw futures and options that you have the basics rights that you know to terms that is very crucial and then having got the right you can build up on all kinds of strategies we didn't discuss that in this program but you have all kinds of future strategies that may be very interesting for foremost

before going into highly complicated strategies we have to have the basics right. And David I would like to be along on those or help you put those out there so if you need our help give us a call Mike what do you say about how farmers get started in the US. Well the language of the options is paramount in our minds. That would be to really stay away from the Greek terminology that's more for the professional traders learn the basics of what the values mean and you know it goes back to number one producers probably need to set their pricing expectations before even deciding upon whether they need to enact a hedge or what type of head to use a good example right now of corn margins that the Board of Trade for a hedge or for new crop is only three hundred seventy five dollars a contract that's seven and a half cents a bushel that you can get 100 percent of the sensitivity that an option cannot give you. If you if you think the corn market is going sharply lower or sharply higher in a very quick time period that's a very nice margin historically in our opinion to work with as far as managing risk. Second thing would be

other than the language of options would be the technology and tools available versus a decade ago is that there's 20 night and day there are software applications that help you show the risk reward on option strategies you can plug in and immediately look at exactly in using real time data of actual strike prices and and premiums and then volatility factors that they put everything together for you. They're expensive but a lot of the brokerage firms certainly have them and they need to be used before you nack the strategy. Mike we appreciate you being along as well. Dave Dickey thanks for having us all in focus 580 for this call in program this morning and we'll have those show up on our website AWOL U.S. dot edu. Click on the left hand side of the page on AM and then the right hand side of the page on agriculture scroll down to the green area. Somewhere in there we'll have this hour on hedging. Mike can you host. Thank you again for being with us today we appreciate it very much. Thank you so much.

Thank you Guy.