DiamondSCattleCo
Well-known member
Since I haven't appeared to be all that successful at explaining why Cash Basis Contracts are bad news for all producers, I figured I'd try and beat my head against a brick wall some more. I am nothing if not persistent. Having a hard head also helps.
Lets take a market over 3 days. Demand would be stable, as would supply, feed costs, everything that could possibly influence a market. In other words, hold all market pressures constant. I don't think this is unreasonable given our time frame. Feedlots will limit themselves to $X to spend over those three days. Once again, not unreasonable given that they supposedly price cattle based purely on feed prices and cattle futures.
Day 1 - No cash basis contracts signed, so all buyers have stumbled into the barn to buy. Lets say average 8 weight steers sold for a buck. We'll use this as our price discovery day.
Day 2 - Deliveries were made on cash basis contracts signed days/weeks/months ago that effectively took care of 1/2 the demand for that day. The producers were given a 2 cent premium on the their average animals to woo them away from the sale barn, so they got a $1.02. So that leaves 1/2 of the demand to be filled at the auction market, but now feedlots have less than 1/2 of their money left. So they fill the remaining orders at 98 cents/lb. No seller is going to yell NO SALE over a couple pennies. The average cash value market has now been pushed down 2 cents/lb.
Day 3 - Deliveries were made on cash basis contracts days/weeks/months ago that once again fulfilled 1/2 demand. Producers received a 2 cent premium again, however since yesterday's cash market was averaged at 98 cents, they only got a $1.00/lb. When the buyers head to the market, they've got $1.00/lb to spend, since the contract purchases didn't cost as much, BUT they also had a new price discovery yesterday that the market was willing to bear 98 cents instead of $1. So the buyers will attempt to pressure the market to stick at 98 cents. They may not be successful, and may end up spending 99 cents, or 99.5. Heck they may end up spending $1, but they still exert more downwards pressure than they did on Day 1 of true price discovery. This is what a buyer is going to attempt to do. Its a fundamental concept of capitalism and free markets.
Now I know people are asking how it is that cash markets are often higher than the contract markets. Simple demand. Lets say on Day 4 demand doubles. If the buyers were able to buy at 98 cents on Day 3, the cash basis contract guys still get a buck (the 2 cent premium is written into the contract). Only 1/4 of the market demand was fulfilled. Who knows what the new cash market price is going to be, but demand would still be lower at the barn due to 1/4 of the demand being fullfilled through contracts. Even in the face of a great increase in demand, we still have downwards price pressure from the contract.
Rod
Lets take a market over 3 days. Demand would be stable, as would supply, feed costs, everything that could possibly influence a market. In other words, hold all market pressures constant. I don't think this is unreasonable given our time frame. Feedlots will limit themselves to $X to spend over those three days. Once again, not unreasonable given that they supposedly price cattle based purely on feed prices and cattle futures.
Day 1 - No cash basis contracts signed, so all buyers have stumbled into the barn to buy. Lets say average 8 weight steers sold for a buck. We'll use this as our price discovery day.
Day 2 - Deliveries were made on cash basis contracts signed days/weeks/months ago that effectively took care of 1/2 the demand for that day. The producers were given a 2 cent premium on the their average animals to woo them away from the sale barn, so they got a $1.02. So that leaves 1/2 of the demand to be filled at the auction market, but now feedlots have less than 1/2 of their money left. So they fill the remaining orders at 98 cents/lb. No seller is going to yell NO SALE over a couple pennies. The average cash value market has now been pushed down 2 cents/lb.
Day 3 - Deliveries were made on cash basis contracts days/weeks/months ago that once again fulfilled 1/2 demand. Producers received a 2 cent premium again, however since yesterday's cash market was averaged at 98 cents, they only got a $1.00/lb. When the buyers head to the market, they've got $1.00/lb to spend, since the contract purchases didn't cost as much, BUT they also had a new price discovery yesterday that the market was willing to bear 98 cents instead of $1. So the buyers will attempt to pressure the market to stick at 98 cents. They may not be successful, and may end up spending 99 cents, or 99.5. Heck they may end up spending $1, but they still exert more downwards pressure than they did on Day 1 of true price discovery. This is what a buyer is going to attempt to do. Its a fundamental concept of capitalism and free markets.
Now I know people are asking how it is that cash markets are often higher than the contract markets. Simple demand. Lets say on Day 4 demand doubles. If the buyers were able to buy at 98 cents on Day 3, the cash basis contract guys still get a buck (the 2 cent premium is written into the contract). Only 1/4 of the market demand was fulfilled. Who knows what the new cash market price is going to be, but demand would still be lower at the barn due to 1/4 of the demand being fullfilled through contracts. Even in the face of a great increase in demand, we still have downwards price pressure from the contract.
Rod