Ep. 16 Price Risk Management in the Dairy Industry

Relevant Risk Podcast

Ep. 16 – Price Risk Management in the Dairy Industry

[00:01] Intro/Outro

Welcome to Relevant Risk from the Fryar Price Risk Management Center of Excellence presenting conversations and Analysis about Risk and Risk Management for food and agriculture, supply chain decision makers from farmers to consumers and everyone in between. This is Relevant Risk.

[00:19] John Anderson

This is John Anderson, director of the Fryar Price Risk Management Center of Excellence at the University of Arkansas. Here with another Relevant Risk podcast. I’m joined today by center co-director Andy Mackenzie. Andy, how are you today?

[00:32] Andy McKenzie

I’m doing good, John. Good to be here.

[00:34] John Anderson

So we’ve got a special guest today, Andy — a special in at least a couple of respects. So special in the first respect of being a fairly recent alumni of our department here in Agricultural Economics and Agribusiness; and special in the second respect of working in the dairy industry, which is an industry that I don’t think we’ve covered yet here on the Relevant Risk podcast. So, Rachel Berry, we’re really happy to have you here today.

[01:02] Rachel Barry

Yeah, thanks. I’m super excited to be back on campus and recording with you guys. I recently found myself in the dairy industry after a stint at Tyson while I was here in school as an intern in their commodities department and then a short two years at Scoular trading grain in the Cross Country Grain Division. So I started earlier this year trading milk and I’ve learned a ton since then.

[01:28] John Anderson

So there’s a lot to learn about milk. The dairy industry — substantially different, I would guess, from what you experienced when you were doing grain trading.

[01:37] Rachel Barry

Yes, I think it’s vastly different and there’s a couple of reasons why. The first being the announced pricing by the federal orders for milk, which is really a whole topic I’m sure we can get into a little bit later. And also the liquidity aspect of it. When I was trading corn and soybeans, I never really had an issue with getting futures filled when I put an order on the screen or went to the CME board. But and the milk industry in the dairy industry that looks a lot different to hedge those interests.

[02:09] John Anderson

Yeah. And we want to talk about that. Obviously, this is a risk management podcast and what you do, you work with Dairy Farmers of America in their risk management group.

[02:19] Rachel Barry

Yes. So I work directly with producers to focus on producer pricing by forward contracting milk for DFA.

[02:26] John Anderson

Okay. So I think a lot of our listeners, and probably Andy and myself included in this, are a lot more familiar with how forward pricing works in the grain market, for instance. In the dairy industry, as you mentioned, where we’ve got the federal milk marketing order system with this advanced pricing system based on classes which is derived from component values. Locking in a price seems like a very different prospect.

[02:57] Rachel Barry

Yes.

[02:57] John Anderson

So walk us through a little bit maybe when you talk to a dairy farmer, what specifically are you talking about in terms of of of price protection and what tools are you implementing … are you trying to use to implement that price protection?

[03:15] Rachel Barry

So the federal order system is based off of class utilization for each area that it covers. And there are 11 in the U.S. with different pricing districts around those. There are some states that are not covered by one, for example, Montana, that they have their own pricing system, not technically a federal order pricing system, but it still follows the same format and math equations.

[03:38] John Anderson

And when you talk about class, you’re talking about the four different classes of milk. Classed according to end use.

[03:45] Rachel Barry

Yes. So those are separated by end use. The first class being fluid milk, which is the most valuable to the market and pays the farmer the best. And then class two would be your soft products like yogurt, cream cheese, sour cream class three being mainly cheese and its byproducts, and then class four being butter.

[04:04] John Anderson

Okay. And typically, as you alluded there, this kind of this descending scale of price from class one to class four; although class three and four flip quite a bit, now it seems like.

[04:14] Rachel Barry

Yes. So class three and four are traded on the futures market. And rec- … up until recently, I would say, Class three was typically the higher valued class. But butter, I’m sure that you’ve seen the butter shortage headlines in the news lately. With the butter shortage looming, class four has gained a lot of value and has started to trade higher than Class three in the last couple of years.

[04:35] John Anderson

Does that also relate to demand for cheese?

[04:38] Rachel Barry

It does. So we typically say that Class three and four are fed by demand for cheese in Class three and butter in class four.

[04:46] John Anderson

Okay. So those two two kind of pull back a little bit here. So if you look at those those class prices, there are futures contracts traded on class three and Class four — there is not a class one futures price. There’s Class three and four futures prices. And so those would kind of be the tools of your trade as you’re talking to farmers about risk management.

[05:08] Rachel Barry

Yep. So our main tools of the trade would be those Class three and four futures contracts that are traded on the board and then butter futures, cheese futures, nonfat dry milk, which is a byproduct of butter and then dry whey, which is a byproduct of cheese production.

[05:23] John Anderson

Okay. And those last two, those aren’t futures contracts?

[05:26] Rachel Barry

They are traded as futures contracts. And they’re also traded in the spot market.

[05:30] John Anderson

Okay. Very good. Now, in addition to futures prices, so if you’re talking to a farmer about establishing a risk management plan for their farm, you’ve got those futures prices that you can use. What other tools are available to manage price risk?

[05:45] Rachel Barry

So dairy is really interesting in that we don’t only have to rely on the futures contracts to hedge our risk. We can also utilize USDA programs like the Dairy Margin Coverage Program, which is written into the farm bill. And then there are livestock insurance policies that we can also buy on milk so.

[06:02] John Anderson

Through the federal crop insurance program.

[06:03] Rachel Barry

Yeah, those are federally, I guess regulated by our RMA. So we have dairy RP, which sets a price floor in Class three and four futures and then LGM Dairy, which manages the margin between feed futures and Class three futures.

[06:17] John Anderson

So RP would be revenue protection, very similar to the crop revenue protection products and LGM is livestock gross margin for dairy?

[06:26] Rachel Barry

Yes, exactly.

[06:28] John Anderson

Okay. And we do have analogous products. The LGM products…there are LGM products for some other classes of livestock. If I remember rights those are still available; you probably don’t deal with that. You only deal with dairy, right?

[06:38] Rachel Barry

Yeah, I don’t deal with those a lot, but I know they’re still out there.

[06:41] John Anderson

Okay. So you mentioned also the the the FSA program, the Farm Bill program for dairy. Now, that’s not something that you directly engage with for farmers, is that right? Is there sort of … is there any intermediary role that you play there? You just direct farmers to to to how to get involved with that program?

[07:02] Rachel Barry

Yep. So I would direct farmers to their local FSA office to sign up for that. But the dairy margin coverage program is handled entirely by the FSA offices in their communities and in their counties.

[07:14] John Anderson

Okay. And on the crop insurance product, the RP product, does does DFA sell that product or do you work with the insurance companies to sell that product?

[07:22] Rachel Barry

We do. So everyone in my group is a licensed insurance salesman. I guess that’s we call it.

[07:29] John Anderson

Okay. Okay. So you are licensed to sell insurance products that are available through our RMA?

[07:35] Rachel Barry

Yes, we do. And we work with some private insurance agencies to find and fund those policies.

[07:42] John Anderson

Okay. So a fairly comprehensive set of tools to manage risk in dairy, at least a lot of the same components that we would have for for crop farms. You get Title one programs through the farm bill. You’ve got crop insurance through our RMA, you’ve got futures contracts available on CME Group. Is that am I missing something or is that about the size of it?

[08:04] Rachel Barry

No, that is exactly what we do. So that’s what we use. We also use swap partners, but those are related directly to futures contracts. And then we’ll sometimes match up internal volume just to find liquidity.

[08:18] John Anderson

Okay. And one more that I didn’t mention. Forward contracting. Now, we were talking earlier DFA will forward contract with with dairy farmers to establish at least a fixed base price for their for their milk.

[08:34] Rachel Barry

Yes, exactly. So the mailbox price that dairy farmers receive is made up of the blend price, which is a uniform blend price announced by the FMO and then their basis price, which is going to vary by the farm.  Just like with grain contracts, it represents the difference between the market price and what you receive. So their basis price, we can’t really hedge because it’s made up of things like their hauling costs; it’s made up of premiums and deductions for bacteria or hot milk or cold milk; but their uniform price we can hedge using the tools that we talked about earlier.

[09:11] John Anderson

Okay. So when you forward contract with a farm, they get a they get a fixed price for a certain period of time. And and this relates to their monthly settlement check that they get from DFA, is that right?

[09:25] Rachel Barry

Yes, that’s exactly right. So all the forward contracts they write with us are going to settle directly to their milk check as a line item, and then they’ll receive a settlement from us that’ll go through how their forward contract settled, because most of them have a few on at a time and where those uniform announced prices came in compared to the market.

[09:43] John Anderson

Okay. And then I would assume similar to a grain elevator doing forward contracting, you’re backstopping that position somehow?

[09:50] Rachel Barry

Yes, exactly. So that’s what we’re going to hedge through the futures market and all of those insurance products are going to be products that they purchase and aren’t associated with their forward contract position.

[10:02] John Anderson

Okay. So that part of it sounds pretty similar to your life at Scoular maybe.  Maybe maybe not too different. But so what what would be the big differences in applying this this this forward pricing model and these tools or for pricing in the dairy industry versus the grain industry? You’ve mentioned a couple, but if you elaborate on those, I think that’s really interesting.

[10:22] Rachel Barry

Yeah. So I think the the biggest difference definitely has to be where that market is. So it’s not necessarily all within the futures market. Sometimes you have to go find people to take on the opposite side of your risk, which is what we do by exchanging with customers. And then we also …

[10:42] John Anderson

I’m sorry to interrupt. I feel like I’m interrupting you a lot, Rachel, but there’s a lot of interesting stuff here. So when you say customers in that context, you’re talking about end users who are who are using the dairy products, is that right? So, people who are buying cheese or buying cream or buying ice cream or whatever.

[10:57] Rachel Barry

Exactly. So that would be people like Hershey or like Kraft when they’re making cheese.

[11:01] John Anderson

Okay. And these would need to be fairly high-volume customers, I think. Is that right?

[11:06] Rachel Barry

Typically, they need to. Otherwise, there’s not a lot that we can do as far as finding volumes to match up just because there’s so many different contracts being traded at one time.

[11:15] John Anderson

Okay. That really is fascinating to me that that’s a part of your job. And again, if you relate that to the analogy of the grain industry, I mean, that would be like the elevator going out to find … going to Nabisco as an end user of grain or something like that to match positions. Is that a fair analogy for what you’re doing?

[11:35] Rachel Barry

I think it’s a pretty fair analogy, although I will say that the dairy industry is much smaller than the grain industry. So it’s a little easier to seek out and get face time with those customers. But that’s pretty much exactly what we have to do sometimes to find the volume.

[11:49] John Anderson

Yeah. And how long is DFA been doing this? Do you have any…I know you just started there recently, but how? What do you know how long the history of this risk management group of this as a service to their members? How long have they been doing this?

[12:01] Rachel Barry

So dairy contracts have only been trading since the nineties, which is about the same time that our risk management department came online. So in the grand scheme of risk management, it’s a fairly new practice, but I guess it’s been around here now for almost 30, 35 years.

[12:19] John Anderson

Okay. At least as far as using the futures market tools. The insurance product is quite a bit newer than that.

[12:25] Rachel Barry

Yes, the insurance product is much newer than that.

[12:28] John Anderson

Okay, Andy, I want to give you a chance to jump in here. I will let you get a word in edgewise. What’s on your ming.

[12:33] Andy McKenzie

Mind, John? You’re the expert in this compared to me.

[12:35] John Anderson

So if I’m the expert we’re in trouble.

[12:36] Andy McKenzie

I’m happy to yield. But but I mean, yeah, I mean, we’ve already covered some interesting topics here, but one thing I was also interested in is, I mean, Dairy Farmers of America is a fairly large co-operative. Right. So you have dairy farmers all over the country as your clients. Is there a big range in the size of operations you deal with, and how do you tailor the risk management program based on the size of the customer?

[13:03] Rachel Barry

So there are huge differences in the sizes of our customers, which relates a lot, I think, to the area that they farm in because like you said, we’ve got people all over the lower 48 in the US. So a lot of farmers in the northeast are fairly small. But when you look at farmers that are in California, they’re massive in comparison. In the southeast area and especially in Arkansas, we don’t see anybody whose giant by the Western standards, but there are some fairly large dairy farms in the area and definitely farms that we work with down here. So I would say for people that are milking less than 200 cows, my number one recommendation to them is always to leverage that FSA program, the dairy margin coverage program, just because it’s the least expensive way for them to get a risk management strategy on. But as we start looking at people who are producing more than 5 million pounds of milk, which is the limit for that DMC program, then we start looking at things like the insurance products and forward contracts combined as a strategy. That way we can really balance their risk and their portfolio.

[14:08] Andy McKenzie

That sounds like a great research topic, John, right. To look at the combined risk of all these different tools together.

[14:14] John Anderson

That does sound like a great kind of optimal portfolio sort of problem to look into. And I could see how that would differ. It would have to differ across across operation sizes because of some of the parameters on for example, the FSA program that caps out at a fairly low level. Yeah, that… we should make a note of that and we might have some work to do on that.

[14:35] Andy McKenzie

When you talk about forward contracts do the actual level of the price you can offer on a forward contract, is that directly related to the futures market then? So if the futures are higher, you offer a higher forward price?

[14:46] Rachel Barry

Yes, that’s exactly right. So we’re forward contracting with them in a similar way, similar way to how they would hold a position like at a brokerage firm. But since our forward contracting positions are settled to their milk check, we’ve got to call it a forward contract. But similar to like their brokerage account, they can still enter and exit positions and utilize options, futures and any mix of the two to create their position.

[15:11] Andy McKenzie

So you do actually use options as well in this situation.

[15:14] Rachel Barry

I more frequently use options now than I ever did when I was working in grain for sure. I would say probably over half of what I do is using options.

[15:24] Andy McKenzie

Okay, so in other words, you could buy put options, say to sort of set a price floor, but allow for a higher price if prices actually go higher.

[15:33] Rachel Barry

Yes, that is our farmers’ favorite way to manage risk because who wants to give up the upside? We do also have a lot of people that pair some of the insurance products with selling a call to set a maximum price on their milk, which helps to feed some revenue into the operation to be able to afford some of those insurance.

[15:50] John Anderson

So when you talk about using options on milk, how far out are folks generally looking? I’m trying to get at how much time value are they willing to pay for when they’re using options on milk?

[16:04] Rachel Barry

So it definitely depends and it depends a lot on what the recent market movements have been, and that is going to influence greatly the price of those options. But there’s also a huge lack of liquidity issue within the options market. So you may put an options trade in at whatever the last trade value was and still have it sit out there for three days just because nobody else is taking the opposite side of that option in the market.

[16:30] John Anderson

And so would this be an option typically that you’re looking three months ahead, six months ahead? What’s what’s the time frame that that you … that your producers would typically be interested in?

[16:42] Rachel Barry

Usually 6 to 9 months is the farthest that we can go out. And that’s going to give them really the most time value for what they’re entering into. But we see a lot of people who use those in the nearby months. So the first three months of futures contracts that are on the board, the closest three months have the highest liquidity. And a lot of people wait until the last minute to lock that stuff in.

[17:04] John Anderson

Okay. Interesting. And are they using similar strategies on the input price side? I mean, obviously, feed is one of the major inputs to a… to a dairy. How are they managing risk on the input side?

[17:19] Rachel Barry

So that’s almost a totally different game, but it still falls under our umbarella. So they do use, I guess, hedging positions is what we would call them in their account with us to hedge those futures prices for corn, soybean meal, stuff like that. Some of them do use options to set a maximum price, but typically because the cost of those is a little bit high and they like to know what that breakeven is going to be, most of them are just locking in that futures price.

[17:48] John Anderson

And how far ahead are they doing that, typically?

[17:50] Rachel Barry

That’s a little easier to do. So we see guys do that before they lock in milk pricing. It’s not unheard of for them to do a year at a time in August or September and look at it again in January to think about the next year.

[18:03] John Anderson

And I would guess the greater liquidity in that market makes it easier to do.

[18:07] Rachel Barry

Yes, it helps a ton.

[18:09] John Anderson

Yeah. Interesting. So let me get specific about that. Let’s…so let’s think about where the market is right now. If you’re talking to a farmer right now, high input prices have been on everybody’s mind really across the ag sector. And I would guess with where feed prices are right now, what are …how are farmers managing markets, managing margins in the current market when they’re looking ahead to fairly high feed prices, I would say. So what’s the strategy?

[18:41] Rachel Barry

It’s pretty interesting. So previously in the last year or 18 months when we had really high food prices, we had an accompanying, accompanying super high milk price. Unheard of, unseen milk price. Now we’re falling back to levels that are similar to like 2014 and the beginning of the pandemic, or I should say a few months into the pandemic, because they tanked right there at the beginning. But I would say guys are starting to get a little bit worried and we’re starting to see that in how they choose to forward contract. So people who can’t lock in a profit typically are very reluctant to lock in the price and lock themselves out of a profit. So most of our guys right now are turning towards option strategies to put a price floor on and maybe also combining that with a price ceiling type product to manage their input risk.

[19:28] John Anderson

So to set up a kind of a worst case scenario margin and hope that one… one side of that trade moves in their direction and it ends up better than that.

[19:37] Rachel Barry

Exactly. So they’re locking in where they can continue to milk cows and hoping that things get better.

[19:43] John Anderson

Okay. Interesting.

[19:45] Andy McKenzie

So you were…I’m just fascinated. You were talking about swaps a little bit as well. So is, are you saying that’s between you and the end users that you set those swaps with and how do they work?

[19:55] Rachel Barry

So sometimes we’ll work with end users and we’ll get that internal volume and match it up and keep it on our books, which is similar to how we would manage like a futures trade. But it’s never going to the real CME market to be traded.

[20:08] Andy McKenzie

So these are off… over the counter. So the over-the-counter products I guess, is what you call them, right? OTC?

[20:14] Rachel Barry

Yes, exactly. And then we’ve also got a couple people that we work with. So some of the bigger clearinghouses that will provide a liquidity source for those OTC swaps when we can’t match it up internally. So it may be that we have options that we, you know, really need to get filled. We need to get those orders filled,and we’ll have to take them to external sources like Wells Fargo or somebody like that who runs a big swap book that then can offset that risk for us.

[20:40] Andy McKenzie

And just to, you know, think about this like Swaps 101, the way that it works is you sort of fix the price for a period of time between the two parties. And then what ever markets do, one of the parties is benefiting and one is losing, and they’re sort of offsetting those positions together.

[21:00] Rachel Barry

Yes, exactly. So it’s like when you think about the futures market, if you knew who you were exchanging with when your contracts settled or when you exited your position, you would just cut that person check. And that’s essentially what we’re doing with swaps.

[21:13] Andy McKenzie

Gotcha. That makes sense. Is that something that you experienced when you worked for a Scoular in the grain industry? Is that or is that something, you know, germane just to the dairy industry?

[21:21] Rachel Barry

They definitely exist in the grain industry and they’re used for things like non-uniform sizes when you can’t fill a whole lot size or something like that, or you need a custom expiration date. But very rarely do they ever use them at Scoular. I think maybe once or twice in the two years that I was there.

[21:37] Andy McKenzie

Well, I know you told me as well that you had to deal with freight logistics a lot, right, when you worked for Scoular. Is is that an issue in your current position or is that not?

[21:47] Rachel Barry

It is not just because DFA is so big that there are departments that do everything. So we have a milk moving department in each area that we service. And then we also have an overall like milk logistics department at our headquarters that they all take a look at that and factor in what freight costs are going to be and things like that. But it’s not something that I directly engage with anymore.

[22:09] Andy McKenzie

Well, one thing I’m sort of interested as well in is just so you’re in the risk management division, I guess that’s what it’s called for DFA.

[22:16] Rachel Barry

Yes.

[22:17] Andy McKenzie

How many people are actually employed in that division?

[22:20] Rachel Barry

So there’s quite a few.  As far as our front office people are customer facing people, we’ve got seven people that work with our members, but keep in mind we’ve got almost 13,000 members nationwide. So we’re still kind of swamped. And then we have five people that work with our internal and commercial customers. So there are, I guess it’s 12 of us, 12 of us that are working directly customer facing. And then we have a large back office team that helps to manage our positions, make sure that we’re completely hedged because we’re using members’ money to do this. So we’ve got to keep things tight and make sure that things are buttoned up. We’re not taking unnecessary risks.

[22:59] Andy McKenzie

That’s very interesting. And you know, when was it you graduated again, Rachel? It’s not that long ago, right?

[23:04] Rachel Barry

No, it was in 2020, May 2020, the thick of the pandemic.

[23:08] Andy McKenzie

Well, so if you take into account your internship experience and what you’ve done since you’ve done risk management with chickens, grain and now dairy. That’s quite an experience in such a short space of time, I would say.

[23:21] Rachel Barry

Yes, it’s been really interesting. And they’re all moves that I would say I didn’t necessarily see coming when I started and was first sitting in my futures and options class, but they’ve all helped me to develop into the risk management mind that I have today and all of them have helped me in the next position. So being at Tyson and understanding what an end user needs really helped me when I went from the end user side to trading in the middle and then having that experience in risk management already with the grain side and at Tyson moving into the dairy world, I guess I would say, the dairy industry gave me a lot of insight into some things that we could do to kind of experiment with how are we hedging things? How are we finding liquidity?

[24:06] Andy McKenzie

Okay. Well, actually it emphasizes to my current group of students in my futures class that their eyes glaze, glaze over when I go over options. But you may end up using it right in your career.

[24:16] Rachel Barry

Yes. At first I would say that I was probably one of the kids in class, that my eyes were like, wow, wide and then suddenly glazed over when we talked about options. But once you get into actually using them to manage risk and working with customers, it becomes a lot easier to understand and they’re as important, if not more important of a tool for the producer when managing risk.

[24:37] Andy McKenzie

Do you have any further questions?

[24:39] John Anderson

Well, I had just a couple of observations. One, you mentioned the commodity coverage that that Rachel has has picked up in a very short time. I would also note that she’s developed expertise with FSA administered farm bill programs, the federally subsidized crop insurance program, futures, options, swaps, over-the-counter products. That’s a fairly comprehensive set of risk management tools. That’s really about as comprehensive as it gets in terms of risk management tools. So I’m just amazed that in really what to a couple old guys like Andy and I seems like a really, really short career you’ve developed such breadth not only with the commodities you’ve worked with, but also with the tools that you’ve got direct experience with. That’s pretty incredible.

[25:29] Rachel Barry

Thanks. It’s been a lot of work. Definitely, most of the learning comes on the move — on the job. I learned a ton in my classes, which helped to set me up for success. So especially about those crop insurance programs and then the futures market and options in general. And knowing that vocabulary helps you a ton when you get into the right. And I think that was a huge leg up over some of the other people that I’ve worked with out there. But overall, I think that if you’re scared to learn this stuff, you just have to dive in and it’ll come to you pretty naturally.

[26:01] John Anderson

Yeah. There’s no teacher like experience, I guess, when it comes to these things.

[26:04] Rachel Barry

Yes, I would say there’s maybe no teacher like mistakes when it comes to these things. You’ll learn a lot that way for sure.

[26:11] John Anderson

Well, I do have I do have one last question related to the breadth of your experience, because, I mean, Rachel, I know you probably don’t think about yourself this way, but you you are operating at a very high level as a risk management expert. I mean, you’ve got a perspective that I think probably a very small percentage of people operating in the commodity space have, which is really cool. Let’s think about that perspective and apply it directly to your current market,  to to the milk market. So you’ve got a lot of experience with tools. What’s missing, what would be nice to have that maybe you don’t have in the dairy space? Is there a time when you’re dealing with a producer where you think, I’ve got a gap here that I can’t fill and it would be great to have a tool that fills this. What’s missing in terms of dairy risk management, that you’d like to have.

[26:56] Rachel Barry

So many things.  No, it would be awesome to have something to trade that really represents what a blend price would be, because backing into a blend price from all the different products that we can use to create that and working through all of those equations to mimic what the federal order might announce, that’s definitely complicated.

[27:15] John Anderson

So let’s back this up just a little bit. When you talk about blend price, you’re talking about the price that a farmer actually receives that is based on all the different class uses of milk.

[27:29] Rachel Barry

Yes, that is exactly right.

[27:31] John Anderson

So some milk goes to fluid and it gets a class one price. Some milk goes to ice cream and gets a class two price; some milk goes to cheese and gets a class three price; and some milk goes to butter and gets a class four price. And obviously I’m simplifying because there are more than four products, but there’s a weighted average of those four prices then that become the blend price. Is that a decent summary of what you’re talking about there?

[27:56] Rachel Barry

Yes, I think that’s exactly right. And for the most part, when we estimate what blend prices might be based on what’s trading out there in the market, that’s exactly what we use is that weighted average of all those four prices.

[28:07] John Anderson

So a product that would track that that that’s that composite is what we’re talking about. Some product that would be a composite of those of those individual classes that would track that would be useful.

[28:19] Rachel Barry

Yes, that would be perfect. I’m sure that some over the counter, somebody out there is offering that. But at this point, I think that it really needs to be traded somewhere that producers and people who are new to the market, new to the industry, maybe new buyers for dairy could find that info.

[28:36] John Anderson

I guess the question I have about that, and that’s probably not a question for this podcast, but I guess since I’ve started, I’ll go ahead and ask it anyway. To what extent would would a price like that or would any instrument like that be contingent on how we do pricing in the federal order system? Is there a policy contingency there that would make it difficult to get a product like that going?

[28:59] Rachel Barry

Yes, there certainly is, especially with the discussions going around going on around the federal order system right now for fluid pricing. Right now, we’re using an average of Class three and four futures, which makes it pretty straightforward to hedge. You take your right volume, you divide it in half. And then you hed-… hedge each, each class of milk. There is discussion maybe pointing to going to the higher of those two classes, which was used previously so it’s not a totally new plan, but it does make it a lot harder to hedge, especially for the end user who maybe isn’t benefiting from going to the higher of.  Controlling those costs could be a challenge and finding a product that can identify which of the two is going to be the highest at the time that we settle is definitely going to be a challenge.

[29:45] John Anderson

Yeah. And I , Andy, I would … I think it’s worth noting that that intersection between what is done in policy and how that affects the viability of futures is, is a perennial problem in our world.

[29:56] Andy McKenzie

Yeah, it certainly is. And I think that this is a perfect example, basically.

[30:01] John Anderson

Yeah, that’s an interesting insight. I like that.

[30:04] Andy McKenzie

I was going to ask one other question as well.  You know, it just cropped up to me that, forward contracting in the grain industry, you’ve always got the issue that the farmer may not actually deliver the production. Is that an issue in dairy if the… if you have a forward contract fixed?

[30:19] Rachel Barry

So I think it’s always an issue. If we have a fixed forward contract or even if we have options volume on a forward contract and somebody doesn’t deliver, it’s a huge issue because we’ve now sold that forward contracted volume to someone else and suddenly our position is short. But it’s a little different than in the grain world because grain can go to any market. If you’re a farmer, you can call up any number of traders to come buy your grain, or you can call somebody up and take your grain there, sell it to them, take it to the elevator, dump it there, get the market price, whatever you need to do. Dairy farmers have to milk two times a day, 365 days a year, and they’re locked in with a cooperative or a direct shipper that they have to sell their milk to just to ensure that it has a home and isn’t spoiling in their tanks. So typically, if we see an issue like non-delivery on our milk forward contracts, there’s a much bigger problem on the farm and an issue with their membership in the cooperative. So we certainly carry risk, but we mitigate it quite a bit just by the breadth of the organization and everything that we do for their farm.

[31:22] Andy McKenzie

So you know as well, you were talking about you’re doing your MBA right now. Is that something that has a risk management component to it or is it something a little separate for you?

[31:33] Rachel Barry

It’s something definitely a little bit separate for me. I had always just been interested in businesses and how they work, but obviously risk management has taken a front seat in that interest. So the MBA that I’m working on right now is exploring the other parts of business, like a more of a focus on entrepreneurship and some of that background accounting that we still use in these risk management positions, but isn’t the main focus.

[31:56] Andy McKenzie

Well, one thing I would say is if you ever decide you want to change track and maybe academia things, I might be interested in talking to you.

[32:03] John Anderson

We could get a list of projects together pretty quickly that I think would be really interesting.

[32:09] Rachel Barry

Well, maybe that’s my next career switch, you know?

[32:11] John Anderson

There you go. Well, you’ve certainly move fast so far. So plenty of time. Anything else, Andy?

[32:18] Andy McKenzie

I think I’ve got everything answered that I wanted, so I’ll leave it to you, John, if you have anything else.

[32:23] John Anderson

All right, Rachael, really happy to have you here. Very proud of you. Proud to have you as an alum of our department. You’re representing us very well out there in industry. And and I’m just kind of blown away by how quickly you’ve moved and picked up so many skills and applied them in so many different ways. So you’re a great representative of our department and really of our profession and what our profession can do. I think it’s something Andy and I are very, very sensitive to. You know, ag economists can do some things and you’re a good example of that. So thank you for joining us. Andy, thanks for being here, as always.

[32:53] Andy McKenzie

Thank you.

[32:54] Rachel Barry

Yeah, thanks, guys, for having me. I appreciate the time.

[32:56] John Anderson

Absolutely. We’ll have you back. When you change jobs again and mastered another commodity, we’ll have you down again.

[33:02] Rachel Barry

I’ll make the call.

[33:03] John Anderson

Very good. Well, for now, this is John Anderson with Andy Mackenzie and the Relevant Risk podcast. Thanks for joining us.

[33:11] Intro/Outro

Thanks for listening to the Relevant Risk Podcast, a production of the Fryar Price Risk Management Center of Excellence in the Department of Agricultural Economics and Agribusiness within the University of Arkansas System. The Fryar Price Risk Management Center of Excellence carries out teaching activities through the Dale Bumpers College of Agricultural, Food and Life Sciences at the University of Arkansas in Fayetteville and research and extension activities through the University of Arkansas System Division of Agriculture. Visit fryar-risk-center.uada.edu for more information. Thanks for listening.