Market Check’s Pre-Harvest Program Proves the Value of Put Options Again
Market Check opened its Pre-Harvest Program to grower clients in March 2018, utilising a put options strategy to protect new crop prices. Rather than forward selling at sub $300 NTP levels, growers contributed $20 per tonne into the Program which the Market Check team invested in a portfolio of wheat put options, actively managing the position until November 2018. As the season unfolded, those growers who utilised Market Check’s Pre Harvest Program not only avoided potential washout costs but participated in the much stronger harvest market and had 66% of their original equity investment paid back last month.
On average, the program returned $13.52 per tonne of the total spend, an amazing result considering the domestic market rallied in excess of $100 per tonne. The program’s mandate is to protect new crop prices during the growing season according to Market Check’s Head of Markets, Tim Phelps, while not exposing participants to many of the risks associated with forward selling. Market Check achieves this through buying put options on either the ASX Wheat contract or the Chicago/Kansas wheat markets, that benefit when those prices fall but are not obliged to sell if the market rises. Tim said “with put options you pay a premium to cap the downside, in this case $20 a tonne, whilst remaining exposed if the market rallies.” This eliminates washout risk, which many growers had to endure last year as crops deteriorated and either failed or minimal grain was harvested. Dion Trezona, a Market Check grower client from Streaky Bay in South Australia said “Being able to lock in a bottom line for our grain price using existing pool equity to fund the premium cost is a stress free option without the production risk of a forward contract”.
The average new crop Melbourne NTP price for APW1 between the 1st and 15th of May 2018 was $307 per tonne according to Profarmer. A grower could have either forward sold at $307 or committed that same tonnage to Market Check’s Pre Harvest Program for a $2.50 per tonne management fee and a $20 per tonne investment into a portfolio of put options. When the program finished on the 21st of December 2018, that same market was $435 per tonne, which means forward selling was $128 per tonne lower than harvest prices. As at the 21st December, even though the market rallied, the Market Check team still returned $13.26 of the initial $20 per tonne investment and allowed growers to participate in the higher market environment.“The results are comparatively similar irrespective of the port zone or grades produced” saidTim, and if the market had fallen rather than risen, “put options would have also provided downside protection.”
Market Check maintains a strong view that very rarely should growers initiate forward sales early in the growing season as part of their marketing strategy, usually only being a viable option during the spring when production is more certain. Market Check have back-tested the past 8 years which has proven that forward selling has outperformed hedging pre-harvest or a put option strategy very few times, with the outperformance on those occasions being minimal. John Bennett, another long-term Market Check client from Lawloit in Victoria, said “Put options have been an effective way of protecting prices whilst avoiding washout risks. This means we can actively manage a larger percent of our new crop production price risk further out using the Pre-Harvest Program.”
As we stare down the barrel of another uncertain season, where historically high prices might once again entice forward selling, the Market Check team are telling growers who are unfamiliar with the put options strategy to keep all of the above in mind. The Market Check team have recently opened their Pre-Harvest Program for the 2019/20 season, buying put options over the January 2020 ASX Wheat contract. For any more information or advice on put options strategies, the advisory team are more than happy to discuss more and they can be reached on 02 9499 4199.
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@TEMarkets As you know from a decision-making view, deciles have limited value in isolation as the range within deciles can be extreme eg drought you sell @ dec10 & miss another $100t. Overlaying with deciles based on relative value paints a clearer pic eg Aus currently ~dec1 basis US futs