Commodities Futures Trader Mentoring

The March contract is the appropriate contract month for evaluating this hedge. March is the closest contract month to the expected purchase date in February with no danger of expiration (that is, the nearby futures contract). The hedge would be placed in November by taking a long position on March corn futures. The number of contracts would be enough to represent 140 tons (5000 bushels or 1 contract). The futures contract will be offset and the corn purchased on the cash market in early February. The expected price is $2.80 ($2.50 plus a basis of +30 cents).

The examples on the following pages (E through H) summarize outcomes of this long hedge under different circumstances. As you go through the examples, remember that this is a buying hedge. Thus, losses increase your purchase price and gains reduce your purchase price.

The net price you receive by hedging (whether a short hedge or a long hedge) is a combination of the cash market and futures market transactions.

The general idea is that what is lost or gained in one market is offset by a gain or loss in the other market. Whether or not your price objective is achieved depends on the expected basis relative to the actual basis when the hedge is lifted. The proportion of your total needs to hedge is a management decision, and no single rule works in all situations. Some general rules may be helpful.

If hedging is a new marketing strategy for you, start small and see how the process fits into your management style and financial situation. Remember, hedging means your potential loss on the futures market position is offset by gains on the cash market. Thus, you should not hedge more livestock than you expect to produce, or hedge more feed inputs than what will be purchased for feed.

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