Coverage Level - Understanding Dairy Markets

Report
Dairy Producer Margin Protection Program
February 14, 2014
University of Wisconsin Webinar Series
Dr. John Newton
Clinical Assistant Professor, Department of ACE
University of Illinois at Urbana-Champaign
[email protected]
@New10_AgEcon
Major Dairy Provisions of 2014 Farm Bill
• Creates a Dairy Producer Margin Protection Program
• Creates a dairy product donation program
• Repeals the MILC program after the margin protection program is
operational
• Repeals the dairy product price support program
• Repeals the dairy export incentive program
• Extends the dairy forward pricing program
Margin Protection Program
• Dairy Producer Margin Protection Program
• Voluntary program with annual coverage decision
• Protects dairymen from severe downturns in the milk price, rising
livestock feed prices, or a combination of both.
• Pays indemnity when the average difference between the USDA
national All-Milk price and a feed ration index falls below a user
selected coverage level
Important Margin Elements
• Actual Dairy Production Margin
• All-milk price minus feed ration value
• Actual Dairy Production History
• Maximum calendar year production 2011-2013 (revised annually)
• Coverage Percentage
• 25% to 90% in 5% increments
• Coverage Level
• $4.00/cwt to $8.00/cwt in 50¢ increments
Determine Appetite for Risk
Coverage Level
$8.00
$6.00
$4.00
25%
60%
Coverage Quantity
Graphic from Hoard’s Dairyman Webinar by Dr. Scott Brown, University of Missouri
90%
Protects Against Margin Declines
$/cwt
14.00
2014 Forecast
12.00
Historical Margin
10.00
8.00
6.00
4.00
Margin Protection Available
from $4.00 - $8.00 cwt
2.00
2014
2013
2012
2011
2010
2009
Date
2008
-
Participation Costs
Premium Rates For Selected Margin Level Coverage *
Premium Rates
$1.60
$1.40
$1.20
$0.54 increase in rate for $0.50
increase in coverage ($6.50 to $7.00)*
$1.00
$0.80
$0.60
$0.40
$0.20
Margin
Level
$4.00
$4.50
$5.00
$5.50
$6.00
$6.50
$7.00
$7.50
$8.00
First 4
million pounds
($ per cwt.)
$0.000
$0.010
$0.025
$0.040
$0.055
$0.090
$0.217
$0.300
$0.475
Above 4
million pounds
$0.000
$0.020
$0.040
$0.100
$0.155
$0.290
$0.830
$1.060
$1.360
$0.00
First 4 M lbs PH
After 4 M lbs PH
*Average premium cost per cwt is a function of the amount of production history above 4 M lbs.
Farms with production history well over 4M lbs will pay the higher premium tier on a larger
percentage of their milk.
* - In 2014 and 2015 the premium rates for the first 4
million pounds will be reduced by 25 percent at all levels
except at the $8.00 level. A producer will also pay $100
annually in administrative fees.
Table from Hoard’s Dairyman Webinar by Dr. Scott Brown, University of Missouri
Maximize Benefits of Margin Protection
• The margin protection program
premium rates are fixed for the life of
the farm bill
• Farms may choose annually which
coverage level to protect ($4 to $8)
• Milk and feed market prices are
constantly updating to reflect new market
information
• Milk Production
• Crop Production
When to “Buy More”
Maximum Coverage Level of $8.00
10.00
8.00
6.00
4.00
2.00
Dec
Nov
Oct
Sep
Aug
Jul
Jun
May
-
Apr
• Forecasted average 2009 farm bill
margin was $5.15
12.00
Mar
• Expected 2009 margin forecast
using CME futures
14.00
Feb
• Buy maximum coverage
and coverage percentage?
(Expensive)
Expected 2009 Farm Bill Margin
Jan
• When coverage level is
above expected margins
the plan is “in-the-money”
$/cwt
$8.00 coverage was $2.85 greater than average
margin implied by milk and feed futures
When to “Buy Less”
10.00
8.00
Maximum Coverage Level of $8.00
6.00
4.00
2.00
Dec
Nov
Oct
Sep
Aug
Jul
Jun
May
-
Apr
• Forecasted average 2014 farm bill
margin is $8.86
12.00
Mar
• Expected 2014 margin forecast
using CME futures
14.00
Feb
• Buy minimum coverage
and coverage percentage?
(Risky)
Expected 2014 Farm Bill Margin
Jan
• When coverage level is
below expected margins the
plan is “out-of-the-money”
$/cwt
Currently $8.00 coverage is below the average
margin implied by milk and feed futures
Margin Protection Facts
• Can provide revenue support during multi-year losses in farm equity
• No adjusted growth income or payment limitations
• In-the-money Coverage
• May provide margin protection at levels greater than CME futures would provide
• Out-of-the-money Coverage
• Will not provide margin protection at levels greater than $8.00 per cwt
• Indemnities calculated every 2 months
• Coverage options may be cheaper than LGM-D, futures, and/or options
• Is not actuarially fair as premiums are not based on milk and feed
market prices
Downside of Margin Program
• Cannot lock-in margins above $8.00 during good years
• With LGM-D, based on CME futures and options, you can (assuming availability)
• Based on national average prices
• May not reflect farm level risk in milk and feed markets (basis risk)
• Feed ration is fixed
• LGM-D allows for custom ration
• Offers protection only on up to 90% of production history
• May not participate in LGM-D (questions remain)
USDA Risk Management Options for Dairy
Philosophically Different Approaches
Target Deficiency Payment Program
Dairy Margin Protection Program
1. Provides protection against multiyear losses from $4 to $8 cwt
2. Is not actuarially fair and is not
based on milk and feed market
prices
3. Indemnity payments only when
margin falls below user selected
coverage level
4. No payment limitations or AGI
caps on eligibility
Futures & Options Based Risk Management
LGM-Dairy
1. Protects average gross margin at
prevailing market prices, price
floor moves up or down
2. Is designed to be actuarially fair
pre-subsidy
3. Indemnity payments when actual
margins are below guarantee at
end of coverage period
4. Lacks sufficient funding for
continuous coverage
Important Regulatory Questions
1.
Will registration for Dairy Margin Protection
Program be for 5 years or one year?
2.
LGM-D
Margin
Protection
If annually, when would producers need to make a
decision to enroll in LGM-Dairy vs. Margin
Protection?
3.
Can producers continue to protect months after
August with contracts purchased prior to Sept.
2014?
4.
How will USDA grandfather in producers who are
currently enrolled in LGM-Dairy contracts that
cover months after Aug. 2014?
5.
Can producers opt-out of existing LGM-D plans in
order to enroll in margin protection?
“Pick A Lane?”
Farmdocdaily Webinar 3/26/2014
www.farmdocdaily.illinois.edu
For questions or more information please
contact:
Dr. Brian Gould
Professor, Department of AAE
University of Wisconsin - Madison
[email protected]
Dr. John Newton
Clinical Assistant Professor, Department of ACE
University of Illinois at Urbana-Champaign
@New10_AgEcon
[email protected]

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