Price risk management for beef cattle producers is an important tool in navigating cattle markets. As last week’s Southern Ag Today article on livestock marketing showed, many more producers are using Livestock Risk Protection (LRP) insurance, which correlates to program changes and a run up in cattle prices. LRP and many other price risk management tools, including futures and options contracts, mitigate futures price risk, however, it does not set the actual cash selling price for a producer. The difference between the cash price and the futures price is called basis. Basis varies from year to year, by time of year, location, weight class, and other factors.
Figure 1. Range of Basis Values for 500-600 lb Steers in Georgia and the Average Range of Feeder Cattle Futures Prices, 2018-2022
Source: LMIC using data from USDA-AMS and CME Group
LRP and other price risk management tools that lock in a futures price still leave the producer exposed to basis risk. Producers are often more comfortable with taking on basis risk because basis risk is generally much smaller than futures price risk. Figure 1 presents the average range of monthly basis values and feeder cattle futures prices by month over the last five years for 500-600 lb steer calves in Georgia. As seen in Figure 1, the range of futures prices is much larger than the average range of basis values. Data from other states show similar gaps between basis variability and feeder cattle futures price variability.
LRP, futures, options, and other price risk management tools provide protection from futures price changes but basis fluctuation may still affect the final cash selling price making it important to understand basis risk and to include it when making risk management decisions.
Secor, Will. “Understanding Basis When Managing Feeder Cattle Price Risk.” Southern Ag Today 3(45.2). November 7, 2023. Permalink