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Investigate price floor strategies even as milk prices rise

Jan Shepel
Correspondent
While milk prices are looking up for the near-term, experts warn that anything could happen in the current public health situation and milk prices could take another tumble. Many are warning dairy farmers to take some action to protect their prices for the future.

While milk prices are looking up for the near-term, experts warn that anything could happen in the current public health situation and milk prices could take another tumble. Many are warning dairy farmers to take some action to protect their prices for the future.

Rene Johnson, vice president of agricultural lending at the State Bank of Cross Plains, said she’s advising dairy farmers to at least create a floor price for their milk. “That’s a great first step,” she told us. “Just creating that floor allows you to sleep at night. It gives you some peace of mind.

As a lender, she’s working with a number of farmers who are taking advantage of various government and commercial programs to protect their cash flow. Those efforts have made all the difference in their survival during the tough times this spring, brought on by the unexpected appearance of the novel coronavirus.

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Johnson said that some farmers have created a price floor for their milk with the Dairy Margin Coverage (DMC) program through the USDA’s Farm Service Agency. Many farmers declined to sign up for that program’s 2020 coverage since most economists and experts were predicting strong milk prices this year, which would mean there would be premiums paid but no payments forthcoming from the DMC. But no one could have predicted the pandemic and its impacts on agriculture, food consumption patterns and milk prices.

As the federal government contemplated how it could help agriculture a few months back, several dairy groups lobbied hard to have the USDA re-open signup for the DMC, but Agriculture Secretary Sonny Perdue was opposed to that plan, telling reporters that “you don’t buy homeowners insurance when your house is already on fire.”

At the top of Johnson’s list of advice for dairy farmers is to sign up for the DMC at the next available opportunity. Local FSA officials tell us that signup for coverage in the 2021 calendar year will begin somewhere around October 1, 2020.

Rene Johnson

“Most of the farmers I know who have signed up for DMC have done so at the $9.50 level and it’s working pretty well for them,” Johnson said. The FSA recently announced that there would be a payment for May.

Another program that she said can help farmers hoping to protect their prices is the Dairy Revenue Protection (DRP) program, which is sold through crop insurance agents and is similar to crop insurance. “It’s kind of like a put on milk,” she explained. “We are seeing more and more people interested in that all the time. It’s subsidized, so it’s not as expensive as some other programs.”

One advantage of the DRP is that farmers can sign up almost any day of the week or month (except on days when major USDA reports are coming out) but the payout is determined quarterly. “You can’t buy month-by-month coverage in this program,” she explained.

Johnson’s colleague Jessica Sarbacker is vice president crop insurance manager for the State Bank of Cross Plains. She explained that the DRP payments are determined on a three-month average, so the farmer can experience two bad months, but if the third month features a high enough milk price, it can raise the average and scuttle a payment for that quarter.

“That’s the biggest frustration with the program is the three-month average,” she said. The average price in one month can wreck the three-month average in terms of getting a payment, she added.

Jessica Sarbacker

Farmers may remember that this is the program that was created largely by American Farm Bureau and its chief economist John Newton, who made the rounds of farm country explaining it to farmers when it was rolled out. Under the DRP, producers have the choice of selecting milk component test percentages to establish the insured milk price or can go with milk volume.

Another product that is also handled through crop insurance agents is the Livestock Gross Margin or LGM program for dairy. In this program, Sarbacker explained that farmers must purchase two months of coverage, but can weight the amount of milk they enroll and make it almost a one-month policy by heavily weighting one month’s milk over the other.

RELATED: Negative PPDs offset milk rally

However, this policy can only be purchased one day per month – the last business Friday of the calendar month. That’s a disadvantage, she noted, considering all the volatility that can happen in a month’s time.

Sarbacker said the DRP and LGM work very well for farmers in combination with the Farm Service Agency program. “It brings up their floor for milk prices even higher than the FSA program. They are also used by farmers to protect production over the cap of milk that’s eligible through the FSA program. It’s great sleep insurance,” she added.

Johnson also advises farmers that their milk handler or dairy cooperative may have an in-house program for direct contracting that may be advantageous to the farmer. “In one program I’m familiar with, you don’t owe any type of fee until the month you’re in. And it can be pretty helpful,” she said.

A fifth level of protection for the dairy farm can come from working with a broker, contracting purchases of puts and calls. “It’s not subsidized by the government which helps reduce the cost of some of the other programs, but we have a number of farmers who work with excellent brokers and are getting great results,” Johnson said.

Some of her clients are really large dairy operations and they are limited to the benefits they can get out of some of the government programs like DMC, which has a milk-poundage limitation. But these producers are really well protected from price lows by a put-buying strategy, Johnson said.

“I hear some farmers complain that it is so expensive to do that but I will tell you that it can make all the difference if it is done right,” Johnson said.

While milk contracts may be the most helpful to larger dairies, because contracting requires larger amounts of milk, Johnson said “there are more programs than ever for our smaller producers.” Her family has a dairy farm with 150 cows and she said “there are more options for us than there ever have been before.”

While milk contracts may be the most helpful to larger dairies, there are more programs than ever for smaller producers.

Johnson was one of many farm lenders who took in the Wisconsin Ag Bankers Conference via Zoom on July 8. One of the presenters was Mike North from Commodity Risk Management Group. “He really sent a message – do not wait – get something done,” she said. “We all want all months to feature milk prices over $20 but we just don’t know what’s going to happen.”

She said North encouraged lenders to help their clients get a floor under their milk prices. “The rest of the summer looks great,” Johnson said. “Why aren’t we protecting that by locking it in?

“Now is a good time to get started because who knows what’s going to happen? We could see restaurants closing again with the rise in coronavirus outbreaks and then it hits our dairy processors and our producers again too,” she said.

Johnson is telling her customers that they should use some of their government money to look into some of these price-protection programs including DRP or puts and calls. “See what options are out there. We’re all excited about the prospect of milk prices in the $20s but $15 would have felt pretty good in April and March.”

And she argues that a $15 price floor could have been accomplished if farmers had used some of these strategies and programs.