Radical changes in federal farm programs have led farmers in
Georgia and elsewhere to
buy a lot more insurance these days. Not on their tractors, or
even their crops. They’re
insuring the prices they get for their crops.
“If you insure a car, you’re protecting it against potential
damage,” said George
Shumaker, an economist with the University of Georgia Extension
Service.
“A price is ‘damaged’ if it drops,” he said. “When farmers buy
options, they’re just
buying insurance to protect them against a drop in prices.”
Agricultural commodity options, he said, are agreements that
guarantee the option buyer
the right to buy or sell a commodity for a certain price.
A “call” option fixes the maximum price the option holder will
have to pay for a crop. A
“put” option sets the minimum price he will get for his crop.
In the first year under the new federal farm bill, farmers are
buying put options more than
ever, Shumaker said. He cites two main factors that figure in
the trend.
“First,” he said, “farmers no longer have the target price-
deficiency payment subsidy
system they had under previous farm programs.”
Under the old programs, he said, subsidies would kick in if the
market price for a crop
fell below a certain target price. In effect, the system set a
minimum price growers knew
they could get for their crops.
“Now, though, their income is dependent on market prices, not on
subsidy levels,”
Shumaker said.
“The second factor,” he said, “is the likelihood of greater
price fluctuations as a result of
the removal of federal supply controls.”
Under past farm programs, he said, farmers had to participate in
acreage restriction
programs to be eligible for subsidy payments. With the new farm
bill, though, they’re
free to plant whatever they want. So the supply of farm
commodities is open to much
wider fluctuations.
“Before, farmers were buffered by the actions of the federal
government,” Shumaker said.
“Now they will feel the brunt of market price swings.
“As a result, they’re seeking ways to protect themselves against
a drop in market prices,”
he said. “Put options give them the ability to manage their
price risk.”
If farmers weren’t convinced of the value of put options before,
they probably became
believers by the end of 1996.
“They saw corn prices at $5 a bushel in May and June,” Shumaker
said. “By December
the price was down to $2.50 a bushel. And wheat prices went from
around $7 a bushel to
less than $3.”
The trend to greater use of put options is a sound one for
Georgia farmers, he said.
“A put option is one of a toolbox full of marketing techniques
that can be used,” he said.
“It should definitely be a part of a farmer’s marketing plan.”
But it should never be the only part, he said. Among other
things, Shumaker urges
growers to use:
* Cash forward contracts, which set a fixed price a farmer will
get for his crop.
* Basis contracts, which lock in the relationship between local
cash markets and futures
markets. “These should be used in conjunction with put options,
which are based on
futures markets,” he said.
