Market Matters Blog

Minimum Average Contract: A Smart Marketing Move

Dana Mantini
By  Dana Mantini , Senior Market Analyst
This chart depicts an example of a Minimum Average Price contract with a futures floor of $4.20 and unlimited upside until expiration, which, in this case, is at the end of August. (DTN ProphetX chart)

With December corn now 42 cents per bushel below the high of $4.73 made on June 17, but still some 67 cents above the contract low set back in mid-May, what kind of marketing strategy can a farmer employ? Although both of USDA's 2018-19 and 2019-20 ending stocks estimates are currently bearish, the prospect for a sharp cut in 2019-20 ending corn stocks is possible in the Aug. 12 WASDE report.

If you are looking for a way to market some of your corn and still leave room for upside price appreciation, you might want to consider a Minimum Average Price contract. (The contract might be called by another name, depending on the cash grain company offering it.)

The contract allows a farmer to establish a minimum selling price, but also participate in a potential market rise during a pre-determined averaging window. The contract works as follows: Every day during the pre-determined averaging period, an equal number of bushels is priced, with all of the bushels entered in the contract priced by the end of the contract period. Never would any bushels be priced below the pre-determined minimum or floor price. If, on any day, the market closes below the minimum price, that day's bushels would be priced at the minimum. On any days when the futures finish over the minimum, those bushels would be priced at the futures settlement price on that day.

At the end of the averaging period, all of your corn would be priced at the simple average of all days. For a nominal fee, to be determined by the chosen pricing period, the farmer will have a limited and pre-defined risk, while being able to take advantage of any upside. Never will the farmer have to deal with any options or pay any futures margin. The cash grain company that offers the contract will assume that risk and responsibility.

We have, perhaps, the most important month ahead of us with respect to corn, including not only the Aug. 12 USDA report, but also the revelation of the second survey results and prevented planting data. The chance for a resurgence in price is certainly there, but no one can be certain of how things will turn out. The farmer can choose a shorter window for the averaging period or a longer one that extends into harvest. The shorter the time frame, the cheaper the cost of the contract. As an example, a contract that extends only to the end of August might cost 5 cents per bushel, but one that expires at the end of October might be 9 to 10 cents per bushel. The timeframe can be chosen by the farmer.

If you believe the corn market has upside and would like to make sure you get some new-crop corn sold while retaining plenty of upside (and do so at a very minimal fee), then this is the contract may be for you. A typical contract can be entered for a cost that might range between 5 and 10 cents per bushel. The Minimum Average Price contract is one that protects the downside and offers the opportunity to participate in a priced rally for minimum cost, with no additional risk to the corn farmer.

Here's an example: Say a farmer agrees to sell 30,000 bushels of corn on a Minimum Average Price contract that extends through August. With 28 trading days remaining, that means 1,071 bushels per day will be priced. The minimum value is set at $4.20 on December corn. Let's assume the cost is 5 cents per bushel. Each day the market settles above $4.20 futures, that 1,071 bushels is priced at the closing December price. Any day December closes under $4.20, that day is priced at $4.20. The simple average of the 28 separate pricings would then equal the final futures price for the 30,000 bushels.

Please note that this contract does not take into consideration basis. That is a separate risk to be managed, but basis can be set at any time or even ahead of time.

Such a contract offers a chance to capitalize on a potentially bullish August report, but also protects the downside in the event of a bearish surprise. Check with your local cash grain merchant to see if a similar contract might be offered in your area.

Comments above are for educational purposes and are not meant to be specific trade recommendations. The buying and selling of grains and grain futures involve substantial risk and are not suitable for everyone.

Dana Mantini can be reached at dana.mantini@dtn.com

Follow Dana Mantini on Twitter @mantini_r

(BE/CZ)

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