Focus on ag: Basis levels affect grain marketing decisions
On any given day, farm operators and others can get grain price quotes from the CME Group, also known as the Chicago Board of Trade, in “real-time” on their computer or I-phone.
Almost as quickly, they can get current and future corn and soybean market price quotes from local grain elevators, ethanol plants and processing plants. The difference between the local grain price and the Chicago Board of Trade price is known as “basis.” Understanding how basis works and the seasonal trends associated with basis can be an important factor in making corn and soybean marketing decisions.
More specifically, basis is the difference between the local grain price quote on a specific date and the Chicago Board of Trade price for the corresponding futures contract month. Local harvest price quotes for corn and soybeans would correspond to the December Chicago Board of Trade corn futures price and the November Chicago Board of Trade soybean futures price. By comparison, storing the corn or soybeans after harvest and selling the grain via a forward contract in June or early July the following summer would have the basis level determined by the July board of trade corn or soybean futures.
A “narrow” or “tighter” basis means that the local corn or soybean price is nearer or getting closer to the corresponding Chicago Board of Trade price, while a “wide” or “widening” basis reflects local grain prices that have a greater margin below board of trade prices. In most instances, farmers in the Upper Midwest deal with negative basis levels, which means than local corn and soybean prices are lower than the corresponding board of trade prices.
Areas near the Mississippi River ports or in the southern U.S more typically have positive basis levels, where local grain prices are actually higher than Chicago Board of Trade prices. However, there have been several areas of the Upper Midwest that have had positive basis levels for corn and soybeans at certain times during 2021.
While the definition of basis might seem quite simple, the dynamics of understanding basis can be quite complex. Basis is variable at different locations and can vary throughout the year, or suddenly be adjusted due to changing dynamics in grain market fundamentals.
Following are the main factors that affect basis and can lead to changes in basis levels:
Corn and soybean basis can vary greatly from location to location, largely dependent on the amount of the local grain production to be used as livestock feed or for use in processing and ethanol production. Therefore, basis levels tend to be wider in western Minnesota and the Dakotas than in southern Minnesota, which has a high amount of livestock production, as well as several ethanol plants and soybean processing plants.
This is the cost of shipping grain from the point of local sale to the final destination point, whether it be for use within the U.S. or transported to the ports to be shipped for exports to other countries.
For example, areas that use a large percentage of the corn and soybean production in the local area have less grain to be transported to the ports or to other portions of the U.S. In addition, being closer to the Mississippi River, an important port or a major rail line tends to reduce transportation costs and result in tighter basis levels.
Supply and demand
The overall U.S. grain supply, based on crop production in a given year and grain carryover levels from the previous year, along with the grain usage for livestock feed, processing, ethanol production and exports, can result in year-to-year variations in basis levels.
For example, the 2021 corn and soybean basis levels in many areas have been tighter than normal due to the strong demand for exports to China and increased domestic demand for livestock feed and processing. Poor crop yields in a local area can also affect basis in a given year. Local areas that had below average corn yields in 2021 could potentially see a temporary positive basis for corn due, especially if the area has strong local corn demand for feed use and ethanol production.
Storage and interest costs
In a normal year, both Chicago Board of Trade corn and soybean futures prices and cash prices tend to be the lowest at harvest time and then increase by the summer months in the following year.
As the time gets closer to the actual date of delivery for the grain, the storage and interest costs typically decrease, and the basis tends to narrow. However, this does not always occur. At times during the summer grain markets, depending on demand, the local grain prices may be stronger than board of trade prices, resulting in tighter basis levels. This has been the case in 2020 and 2021, when a combination of lower than average crop yields together with strong demand for corn and soybeans has kept basis levels fairly tight in many portions of the Upper Midwest.
There are many grain marketing tools available for farm operators to use in addition to cash sales, including a variety of hedging, options and basis contracts, In general, a hedging or options contract locks in the Chicago Board of Trade futures price, but not the cash price, meaning that the farmer still has basis risk. For example, a “hedge-to-arrive” contract locks in a board of trade futures price but does not finalize the basis until the futures contract is cleared and the grain is actually sold at the local level. By comparison, a basis contract locks in the basis but keeps the final price open depending on changes in the corresponding board of trade futures price and actual cash price at the time of delivery.
The current basis levels for corn and soybeans in southern Minnesota are quite tight. Corn basis in the region ranges from about five cents to 20 cents per bushel under the Chicago Board of Trade December corn futures price, while the soybean basis ranges from a positive basis of about 20 cents per bushel over the November futures board o trad price to about 30 cents per bushel under the board of trade price.
In the previous six years (2015-2020), corn basis levels have typically averaged 35 to 45 cents per bushel under Chicago Board of Trade December futures in southern Minnesota in late October and soybean basis levels have been 40 to 90 cents per bushel under the November futures price. During those same years, the local corn basis level in southern Minnesota by the following June improved in three years and widened in three years. Soybean basis levels improved in five of the six years, with an average improvement of less than 10 cents per bushel.
Currently, many farmers are quite bullish about the grain market prices in future months, meaning that they feel there is a good chance of corn and soybean prices rising in the coming months. The current basis levels for both crops in many areas are encouraging producers to sell their grain in the next few months, rather than waiting until next summer to deliver and sell the grain.
Currently, corn futures prices are only estimated to increase by about 10 cents per bushel from now until July 2022, while based on current price quotes in south-central Minnesota, the basis level is expected to widen by about 15 cents per bushel.
Similarly with soybeans, the futures price is only expected to rise by about five cents per bushel from now until June 2022, while the basis level is expected to widen by 15 cents per bushel.
The current tighter basis levels for corn and soybeans following the 2021 harvest season is certainly something to factor into post-harvest grain marketing decisions in the next few months. This will likely limit the basis improvement that is usually experienced by using“hedge-to-arrive” contracts for summer 2022. A basis contract to take advantage of the relatively narrow basis could be an alternative strategy, which would still keep the final price level open.
Depending on an individual’s willingness to assume some market risk, they could also sell the grain for cash to realize the advantage of the current tighter basis levels and take a Chicago Board of Trade options or futures price position to keep some upside potential in the corn and soybean markets.
Most grain marketing strategies, including storing unpriced grain in a bin on the farm, involve some level of price and/or basis risk. Understanding the dynamics of basis in corn and soybean market prices is a key element in analyzing the various types of grain marketing contracts that are available to farm operators. Iowa State University has some good information available on understanding basis and various grain marketing strategies. This information is available on the Ag Decision Maker website at: https://www.extension.iastate.edu/agdm/.
For additional information contact Kent Thiesse, farm management analyst and senior vice president, MinnStar Bank, Lake Crystal, Minn., at 507-381-7960 or firstname.lastname@example.org.