Dakota Moss talks about how to understand LRPs and protect your cattle and livestock this year.
Setting prices and understanding LRPs
The United States Department of Agriculture (USDA) sets prices based on futures in the cattle market. The USDA uses the cattle feeder futures and live futures to determine coverage prices. These prices are not set until the close of the futures boards, which occurs at around 1.30 central time. Once the market closes, USDA pulls reports and sends them out to everyone in an email blast by 3.45 that afternoon.
The initial floor price for the cattle market is set using the feeder cattle features. However, the final settlement is based on the feeder cattle cash index, which is a weighted average report from the sale bonds report to USDA. The contracts available for locking in prices range from 13 weeks to 52 weeks, with increments in between. Each day, the nearest maturity date is 13 weeks away, and this pattern continues until 52 weeks.
The availability of contracts for different periods depends on the trading volume on the futures board. When the trading volume breaks over 50 trades a day, USDA starts offering contracts for longer periods. This means that even if there is no feeder contract available for a specific month, USDA can use the nearest available contract to determine pricing for that month.
The coverage or prices that can be locked in range from 70% to 100% of the price off the close of the board. The daily volatility in the feeder market impacts the coverage options offered by USDA. On days with high volatility, the options for locking in prices may be limited.
The subsidy levels for locking in prices also vary based on the percentage of the board price. The subsidy table provided in the podcast transcript shows the different subsidy levels for different ranges of the board price. The subsidy ranges from 55% for locking in 70-80% of the board price to 35% for locking in 95-100% of the board price. Additionally, beginning farmers and ranchers may qualify for an additional 10% subsidy if they meet certain criteria, such as being a veteran, in secondary education, or in their first five years of operation.
USDA settles based on cash index
The USDA's goal is to incentivize new and young producers to cover their risk and stay in business. The Cattle Feeder Cash Index is the basis for determining prices in 12 states, and the data is collected from various cell barns that report to the USDA.
The USDA adjusts prices based on different classifications of cattle and weight classes. Adjustment factors are applied to ensure that prices are fair for different types of cattle. For example, if the reported index price is for six to nine weight steers, the settlement price will be even with the board price. However, for steers under six weights, the price is prorated up to 110% of the feeder board on the front end to set floor prices.
The adjustment factors also take into account the differences between heifers and steers. Heifers generally bring less at the market compared to steers, so the adjustment factors are prorated down for six to nine weight heifers. Additionally, there is an option for unborn steers and heifers, which takes into account the weight and gender of the cattle.
It is important to note that the USDA does not care about the actual selling price of the cattle. The settlement is based on the cash index and the adjustment factors, regardless of whether the producer made a profit or not. The USDA's main concern is that the producer owns the cattle.
Compared to other risk management tools such as puts and hedges, the coverage provided by the USDA's Livestock Risk Protection (LRP) cannot be canceled once it is locked in. This provides producers with certainty and stability in their risk management strategies. The LRP should be used as a price protection tool to support a marketing plan, rather than as a speculative tool.
Producers also have a 60-day window prior to the maturity date to sell their cattle and still qualify for payment on the maturity date. However, if the cattle are not sold by the maturity date, the settlement will still be based on the cash index. The USDA's focus is on the index price on the maturity date, not on whether the cattle have been sold or the selling price.
Protect your cattle market profits
The importance of protecting cattle market profits highlights the USDA's Livestock Risk Protection (LRP) program as a valuable tool for cattle producers. The LRP program allows producers to lock in a floor price for their cattle, providing a level of financial security in an unpredictable market.
If the market conditions are favorable and there is an opportunity to make significant profits on cattle, it is advisable to take advantage of it. The LRP program is seen as a cost of doing business to protect the floor price, and while there may not be a penalty for selling cattle before the maturity date, the premium still needs to be paid.
The time constraint of the LRP program is also highlighted. Producers have from 4 p.m. to 9 a.m. Central Time the next morning to lock in prices. This emphasizes the need for timely communication and documentation to ensure that cattle are locked in at the desired prices.
He also mentions the application process for participating in the LRP program. While the initial application is straightforward, it is important to have it filled out ahead of time to avoid delays. The only potential holdup mentioned is if there is a change in legal entities, such as switching from selling cattle under an individual name to an LLC. In such cases, it is necessary to have the appropriate forms on file with the USDA's Farm Service Agency (FSA) to ensure the subsidy is received.
He provides an example of a customer who participated in the LRP program in 2020. The customer locked in a floor price on 180 head of eight-weight steers, aiming to satisfy the requirements of their banker and ensure profitability. The coverage level was set at 92.45%, and the total premium paid was $1,630. Despite the challenges posed by the COVID-19 pandemic, the customer sold their cattle in early May and did not deviate from their marketing plan, knowing they were protected.
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