Grain marketing is generally the least favorite and most poorly executed task farmers are faced with each year. Consequently, all the time and hard work spent to produce a crop can be futile if poor marketing decisions are made. Investment managers face similar market derived stress as they are also evaluated on the timing and allocations of their investment decisions. However, unlike most growers, money managers have at their disposal the most sophisticated computer systems and teams of research analysts to guide their decisions. Additionally, they follow time tested best practices that have proven to increase the probability of their long term success. Below we highlight five investment management fundamentals and how, as a farmer you should apply them to your marketing strategy.
1. It Starts With A Plan
Success starts with a plan of action, and in investment management it’s called the IPS or Investment Policy Statement. This is where managers layout the investment framework including objectives, asset classes, and strategic allocations to name a few. Studies have shown that virtually any venture you undertake will have considerably better odds of success if it starts with a well thought out plan. Yet, many growers skip this very critical first step in marketing often mistaking a goal in their head for a written course of action. There are many benefits to having a plan but the key benefits are organization, vision, accountability, and focus on process. A well thought out plan also shows your banker you have a method for managing your risk. Your plan does not need to be complex, but it does need to address key issues around your business. Accordingly, as a grain farmer your plan should at the very minimum contain a forecast for production, a general time frame for selling or hedging, cash liquidity requirements, risk management constraints, and an approximation of your break-even price.
I recommend your plan follow the S.M.A.R.T. objective framework. Smart is an acronym for Specific, Measurable, Achievable, Relevant and Timely. First, your marketing plan should be specific, when setting your goals, objectives and time frames avoid generalities. Plans are never perfect and markets are unpredictable, but its much easier to adjust if you have a solid starting point. Second, measurable, if you can’t put a value on the individual components of your plan then you can’t evaluate your progress. Each component of your plan needs accountability and the best way to insure accountability is through measurable data. Third, make sure your goals or objectives are achievable under the current circumstances. The biggest problem with setting overly high goals is it often sets us up for failure. When we start falling short early in our plan it can cause us to stop monitoring our plan entirely. This negative feedback loop can be avoided with goals and time frames that are reasonable to your operation. Four, your plan should be relevant to your operation. Your goals may be completely different from the farm next door. Insure the goals your’e setting and the time frames to achieve them are getting you closer to your long run objectives. Lastly, put specific time constraints on your marketing goals and try and stick to them. If you want 40% of your crop hedged before harvest, don’t wait till your combining to start.
Diversification is the cornerstone of all investment management. The most savvy investors don’t just diversify across stocks and bonds, they diversify across the investment vehicles they use as well including mutual funds, ETFs, hedge funds, commodities and private equity to name a few. Unfortunately, farmers are somewhat constrained with the crops they can produce, but they can diversify across the marketing tools they use. If your only marketing “tool” is selling on the spot market to the local elevator, your not diversifying, and probably leaving money on the table. As the old saying goes, when the only tool you have is a hammer, every problem looks like a nail. Markets are dynamic and there are financially advantageous reasons to use different strategies for different situations. From crop insurance, futures and options, HTA contracts, basis contracts and on or off farm storage there is a risk management tool for virtually every situation. The more “tools” at your disposal, the more options you have and the higher your probability of success under various market conditions.
3. Focus On The Long Run
Another tenet of investing and investment management is a focus on the long run. Chasing short term goals generally leads to under performance or missing an opportunity you should have taken. When it comes to markets, far too many people focus too heavily on the impact of a single execution. This is generally the result of not having a plan and letting the emotion of the moment drive the decision process. A long run focus combined with disciple allows us to be proactive versus reactive. When our long term focus is the average price of our marketings each year, and with a multi-year perspective, the magnitude of any single marketing becomes far less significant. In addition, less focus on individual outcomes and more focus on the process of marketing helps promote the discipline needed to stick to a plan. Baseball provides a good analogy for trading, the greatest batter of all time, Ty Cobb, failed at the plate more than 63% of the time during his career.
4. Dollar Cost Averaging
The strategy of dollar cost averaging involves investing the same amount of money into the market at timed regular intervals. The theory behind this system is rooted in the fact that by selecting multiple entry points in the market, we increase our odds of a cost basis very near the average market price. Additionally, by staggering purchases, we materially minimize the risk of a single bad entry level. If you flip dollar cost averaging around and apply the philosophy to selling, the same holds true. Similar to focusing on the long run, shooting for one or two high price points during a marketing year can significantly increase risk. Farming is risky business enough without adding risk by trying to pick a top. Our research suggests you should market production at least 5 to 6 times a marketing year but at the same time, the rate of risk reduction declines sharply over 8 to 10 marketings. In other words, look to average your non-liquidity sells across 6-8 separate marketings during the season.
5. Systematic versus Discretionary
In 1983 trader Richard Dennis placed an ad in several leading financial publications looking for applicants to a new trading program later dubbed the Turtles. Richard, already very successful himself, believed armed with a specific set of trading rules, he could make anyone a successful trader. Mr. Dennis’ experiment would ultimately alter investment management and trading forever.
Richard’s systematic versus discretionary trading methods now dominate nearly every aspect of risk management, investment management and proprietary trading. The reason for the dramatic shift boiled down to this, the evidence that systematic trading provided more consistent, predictable, and quantifiable results was overwhelming. Accordingly, the most sophisticated investors place their money with managers that employ these models. Today, farmers can get access to similar systems to help them make better market timing decisions as well. The analysts and experts on Wall Street are being replaced by computers and quants, and they will ultimately be replaced on the farm as well.
With profit margins tight, farmers can ill afford to ignore the impact of optimizing their marketing efforts. Each year a farm doesn’t operate as efficiently as possible, increases the risk of financial ruin. Becoming a more effective marketer however, is one of the least expensive means to making a significant impact on your bottom line. What would an additional 10 or 20 cents gained via more effective marketing mean to your operation each year? Formulating a plan, diversifying your marketing tools, focusing on long run goals, avoiding the urge to pick market highs, and employing a systematic model are all strategies top investment managers employ. These same fundamentals will also make you a better grain marketer and ultimately increase your farms odds for long term success.
Shawn Bingham, CAIA
Learn more about using systematic models in your marketing strategy here.
About the Author:
Mr. Bingham is a 30 year veteran of the futures and options industry and a Chartered Alternative Investment Analyst. He has been a member of both the Chicago Board of Trade and Chicago Board Options Exchange. Shawn’s past employment experience includes industry recognized firms Chicago Research & Trading, HSBC Securities and Prudential Financial. In 2005 Mr. Bingham co-founded Midwest Trading Partners, an NFA registered commodity trading advisory firm located in Itasca, Illinois. In 2006 Midwest was awarded a Top Ten Advisor program designation for performance by Managed Accounts Reports. Through his career Mr. Bingham has provided advisory, execution, research and managed account services for multinational banks, investment banks, hedge funds, HNW/family offices, Fortune 500 companies and global reserve banks. Today Mr. Bingham is focused on bringing next generation systematic agricultural marketing services to American agricultural producers and end users.