By Candace Krebs
Compared to late 2015, when prices swung wildly from historic highs to stomach churning lows, the cattle market has stabilized into a period of relative calm, but questions continue to swirl around whether futures and options trading remains an effective risk management tool that adequately serves the industry.
“All you have to do is read the newspaper to see there’s lots of discussion around cash futures convergence, thin markets and their influence on price discovery, uncertainty about the structure of futures exchanges, who trades and how that effects the market day-to-day,” said Kansas State University livestock marketing specialist Ted Schroeder earlier this year.
The return of relative calm, as higher cattle numbers help to ease market volatility, makes it an ideal time to take stock of how commodity markets are functioning, added Stephen Koontz, a Colorado State University livestock marketing specialist.
Ag economists and marketing specialists, government representatives, farmers, feeders, and traders are all getting ready to roll up their sleeves for just such a discussion and evaluation exercise in early April, when Kansas State University teams up with the Commodity Futures Trading Commission to host a first-of-its-kind joint conference.
The event is being held April 5–6 at the Sheraton Overland Park Hotel and Convention Center in Overland Park, KS. Conference registration is $200 ($250 after March 30) and includes meals and conference materials. Students can register for $20.
It will be comprehensive, looking at trade of all ag commodities, grain as well as cattle.
In recent months, Koontz, Schroeder and many of their colleagues have written commentaries or offered analysis on the current state of commodity futures trading, and cattle organizations have also weighed in with concerns and recommendations.
A special working group of the National Cattlemen’s Beef Association spent a couple of years examining what happened in late 2015 and questioning why the market correction was so traumatic, which led to a closer working relationship with the CFTC. More recently, the U.S. Cattlemen’s Association expressed concern when three CME delivery points — in North Platte, NE, Columbus, NE, and Pratt, KS — announced they would no longer participate in delivering cattle to satisfy the CME contract. The association had been advocating for more delivery locations.
“In a properly functioning market, the ability to make and take delivery on the contract is critical to keeping the futures market in line with the cash market,” argued Kenny Graner, a Mandan, ND, rancher who serves as the group’s president.
Sometimes even fundamental issues, such as delivery requirements, are a source of debate.
“A lot of cattlemen want to insist on physical delivery but I don’t think it’s working,” Koontz argued. “That is difficult for the packers who are on the buying side.”
As the marketplace changes so too should the contracts, Koontz added.
“There are more ways of trading now, more premiums and discounts, and more aspects that go into what the futures price is trying to capture, and that’s an issue too,” he said. “It’s hard to argue that beef is beef. In different regions of the country, it’s really not the same product.”
In recent months, RaboResearch Food and Agribusiness group reached a similar conclusion in a Feeder Cattle Basis report that called for more regionalization of the contract to improve accuracy.
“The number of feeder transactions by region comprising the CME Index are not distributed equally through all geographies,” Rabo’s Senior Animal Protein Analyst Don Close said. “The question as to how well a geographic area is represented in the composition of the index is an important consideration to incorporate in hedging strategies.”
The CME Index is comprised of 12 states, and Rabo’s analysis suggested breaking it down into five regions: Montana and Wyoming; Nebraska, South Dakota and North Dakota; Iowa and Missouri; Kansas and Colorado; and Texas, Oklahoma, and New Mexico.
The increase in volatility since 2014 is a concern, the report concluded.
“A widely accepted complaint surrounding cattle futures in recent years is that volatility has escalated to the point that risk management has become increasingly unpredictable, more difficult and much more expensive,” Close concluded.
Koontz said the shifting basis, the difference between the futures and cash price, can easily move $10 a hundredweight in two weeks time. Or less.
“Now people are trading cattle on the basis price, there’s more of that going on,” he said.
Many observers have tied volatility to the rise of flash trading, a high frequency computerized method of executing trades that is all about beating other traders to the punch. It’s been the subject of countless articles and even a popular book, Flash Boys: A Wall Street Revolt, by Michael Lewis, a startling portrayal of “dark pools” and other clandestine forces at work in shady corners of the stock market.
Still others believe thinning cash trade is destabilizing the market. In that regard, the cattle industry has made some attempt to be proactive, creating an online platform called Fed Cattle Exchange that is owned by Superior Livestock Auction and operates out of the National Livestock Credit Commission office at the Oklahoma City stockyards.
So far, though, the level of trading activity on the new platform has been low, and there have been reports of people watching the exchange for pricing info without directly participating.
“It’s the standard chicken and egg problem. Everybody wants price information but they don’t want to contribute to that,” Koontz noted. “There’s not much in terms of volume on it yet, but we’ll see what happens down the road.”
First-of-its-kind conference planned
K-State’s Center for Risk Management Education and Research will play host to the upcoming commodity futures forum, shepherding much of the debate into the form of high profile panel discussions.
K-State’s Schroeder describes the risk management center as a six-year initiative on campus initially focused on educating students on how to use risk management tools. The center was approached by the CFTC about hosting a larger conference.
“They came to us and asked if we would be willing to partner with them on this and get the education and outreach opportunity to a broader audience,” Schroeder explained.
“All kinds of structural changes are going on in our ag markets,” he added. “Just look at simple things like trading in the pit, which was still common a couple of years ago, to everything now trading on an electronic platform. We felt like we needed to get our minds together to study these markets, with those who are trading day-to-day, those who are regulating the markets, those who are creating new platforms, and say, what are the issues and how are we dealing with them?”
“We want to bring not only the latest research — what do we know and not know — but also hear from those out in the markets about what they are experiencing and how they are managing for it. We also want the CFTC to provide their own viewpoint on some of these topics. How do they help maintain fairness in these markets?”
Specific topics on the posted agenda include the role of speculators in futures markets, high-frequency trading, futures contract design, troubleshooting convergence, and detecting and avoiding fraud in the agricultural futures market.