Break-profit.” That's Dale Moore's optimistic look at marketing cattle. The western Oklahoma feedyard owner-operator likes the term better than “breakeven” because “cattlemen aren't in business just to break even.”
Moore's attitude toward helping customers of Cattleman's Choice Feedyard, Inc. receive rewards from their feeding venture begins at the ranch and ends at the packer. He helps them produce a quality calf or yearling to send to the feedyard, hedge their calves and find the appropriate marketing grid.
That's a good combination, notes Dillon Feuz, Utah State University livestock marketing economist, adding that hedging strategies likely need some support from value-added measures like higher quality carcasses to generate a profit. With the low feeder-cattle costs seen by cattle feeders in late 2008, cattle coming out of the feedyard in spring or summer “might have some profit worked into them,” he adds.
Moore's Gage, OK, yard has mostly custom-fed cattle. With a 7,500-head capacity and pen sizes to handle from 20-200 head, he sees a lot of retained ownership from ranchers, with whom he often partners.
“A feedyard's job has always been to service customers and sell feed,” he says. “Helping customers get their calves ready for the feedyard, then helping with their risk management through hedging and marketing with the packer, is part of the service we offer.” Around 50-60% of his customers rely on the feedyard for hedging strategies.
Put and/or call options are often his choice for helping establish price protection and potential for rancher-feeders and others. The strategy carries more strength if cattle will grade well.
For example, if April '09 live-cattle futures is $90 and the “break-profit” is $90/cwt., an out-of-the-money put options strategy will protect against a major market drop, as was seen last fall, Moore says.
“In this strategy, a producer could buy about an $86 put option for the cost of about $3.50/cwt.,” he says, meaning the cattle are protected at $86 minus the cost of the option.
To lower the cost, the producer/feeder could sell a $96 call option for $1.50. That provides a marketing window of $86-$96, with protection if prices go below $86, for a cost of $2/cwt. ($3.50 minus $1.50).
That provides a solid floor price, and if prices rally past $96, any margin calls for the call option are covered by the increased price.
However, there is more money to be made, depending on the quality of the cattle as measured by carcass data. “In many cases, that's where any profit will come from in today's cattle market,” Moore says.
Sending cattle to the yard that grade high Choice, Prime or Certified Angus Beef® (CAB®) will often generate what's needed to create a profit. Being sold at the right time on the right grid adds to the profit possibilities. “But you can feed the fanciest cattle in the world, and if you don't have marketing skill, you can still lose,” Moore says.
His yard consistently sends cattle that yield premiums at the packer. For 2007 and much of 2008, the average USDA cash feedyard sale price was about $92.70. Moore says his customers received an overall premium that averaged $4.13/cwt. above that.
“That was an extra $60.93/head,” he says. “If you can use an options strategy to make your cattle break even, then receive an extra $60-$100/head from premiums, your cattle will certainly work in this environment.”
Waiting on Wall Street
Feuz agrees with the added-value benefits of feeding higher-quality cattle. But on traditional marketing techniques, he stresses that until the stock market stabilizes, “normal hedging strategies” might not help producers and feeders.
“It's tough to forecast anything unless you know what's happening on the Dow (Dow Jones Industrial market),” he says. “The overall economy has overwhelmingly controlled commodity markets.”
Feuz says live and feeder cattle futures markets are undervalued because of Wall Street worries.
“In late December, April '09 futures were approaching $90,” he points out. “I would like to see another $3-$4 in the April and June contracts. That could get feedyards back to where they could approach breakeven or make a small profit.”
He notes that some cattle finished in December sustained losses in the $200+/head range. “If producers and feeders didn't have any price protection in place, there were some major losses,” Feuz says.
An example of a price-protection strategy would be similar to the one used by Moore, a put-call spread.
“You could buy put options $2-$3 out of the money, then sell calls to offset that premium charge,” he says. “If you can get the call high enough, and give yourself an opportunity for some upside, it could be a profitable strategy.”
Feuz adds: “If you look at projections based on what you paid for feeders (last fall) for spring or summer delivery, then you have some profit worked into those. If the market would come back, they might recover some of the equity they have lost.”
On the supply side, he says there are trends that should enhance cattle prices if and when the economy improves. “Everything is pointing toward a better market,” he says, noting that cattle numbers will likely be tighter in '09. “Exports are coming back.”
Moore encourages producers to maintain good records to list age and source verification of cattle, which can lead to added income. “Age and source verification can add $35/head, and I've seen as much as $50/head,” he says.
“It's another $3/cwt. for the cattle,” says Feuz, because many export markets demand age and source verification.
Getting a reasonable price secured could pay dividends, again because of the overall economy and potential for lower demand. “As the value of the U.S. dollar increases, it may hamper U.S. beef exports,” Feuz says. “And high domestic retail beef prices — which like most foods did not follow commodity prices down — could reduce consumer demand.”
Moore adds that a good risk management program, albeit one that doesn't guarantee a substantial profit, can help ease the minds of producers, feeders and their lenders during troubled times.
“Risk management is a big part of cattle feeding,” he says, “because it can help you sleep better at night.”
And hopefully, break-profit.
Larry Stalcup is a freelance writer based in Amarillo, TX.