Academic journal article ABA Banking Journal

The Bad and Good of Ag Price Volatility

Academic journal article ABA Banking Journal

The Bad and Good of Ag Price Volatility

Article excerpt

THE OUTLOOK FOR AGRICULTURAL commodity prices remains bullish thanks to the competition from the energy sector. The dual use for corn as a food and fuel has pumped a whole new demand stream into agriculture. Further, the increasing value for corn has pushed all row crops to fight for acreage around the globe with higher prices. At the same time, robust global economic growth is increasing food demand. With agricultural prices up, producers have started to look at expansion and increased financing.

In the U.S., summer heat and dryness have raised the usual concerns about production. The combination of strong demand growth and production uncertainty has increased price volatility in every segment of agriculture. This represents both an opportunity and a problem for lenders.

The problem is that agricultural producers followed lenders' advice and pre-sold some of their expected production. Unfortunately, the subsequent price rally has pushed them to make margin calls on those sales. While it is profitable to extend them credit on those margin calls, credit officers worry about the risk of a crop that has not been harvested.

This is a good time to review the producer's risk management options. If the pre-sales are protected by crop revenue coverage (CRC) or revenue assurance (RA) crop insurance, the credit officer can worry about something else but can rest easy on the marketing plan. The most financially valuable aspect of CRC and RA with the harvest options are the built-in call options. This component is one of the least understood aspects of crop insurance. With the spring price of CRC corn at $4. …

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