Diversification may be the best strategy for maximizing price when selling grain, says a University of Illinois ag economist who has compared the results that actual farmers get from their marketing programs.
“Many producers are substantially under-diversified in terms of pricing approaches,” Scott Irwin says. “They have an over reliance on self-directed, active pricing.”
Irwin says there are four distinct methods growers can use to price their grain. It’s what he calls the pricing matrix:
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Really, there are only a couple of basic choices. Growers can make pricing decisions themselves (self-directed), or they can hire a market advisor (externally-managed).
Next, they can price their crops according to a predetermined schedule (mechanical), or they can decide on-the-go based on market moves (active).
Irwin says most growers make their own pricing decisions based on their own market assessments. This puts them solidly in the self-directed/active quadrant of his matrix.
Few farmers are actually happy with the results, however. “Their pricing goal is to beat the market,” says Irwin. “But this is very difficult to do because of the extreme variability in prices.”
Technically, traditional self-directed active marketing can be weak because it assumes the market is efficient and that prices reflect all known information, so the way to beat the market is to acquire additional information not known to the market or to be better at analyzing that information. Those may not be safe assumptions.
The second problem is there is no built-in allowance for your own skill level or for your biases.
Investors maintain balanced portfolios of stocks, bonds, commodities and property that are differentiated by risk, returns and growth. Irwin suggests growers should be using this same diversification strategy in selling their grain to reduce price risk and reduce frustration.
Irwin has identified five marketing keys. The first is market efficiency. If you believe the market is efficient and reflects all available information, then your choice should be a mechanical sales strategy because the only way to beat the market is if you possess information that no one else knows or you have superior analytical skills.
The second key is risk. Mechanical pricing reduces the level of risk whereas active pricing increases risk.
The third key is the financial position of the grower. A high debt load reduces the ability to participate in some active management strategies.
Fourth is your pricing skill. Do you have the knowledge and ability to time price movements and select the appropriate pricing tool?
Finally, how much decision-making discipline do you have? Are you willing to wait for the targets you have set, and sell when those targets are reached, or do you change your marketing plan and price targets as the markets change?
By adding these five keys into the matrix, a grower can determine a personal level of pricing diversification. The amount of weighting each grower will give to each factor in the matrix will vary. Some growers will look at risk as the dominant factor while others may consider financial position or marketing skills as the most important.
For example, a grower who is risk adverse, does not have great pricing skills, has a weak financial position, but believes markets are efficient and who is a disciplined marketer may come up with a diversification strategy of :
Meanwhile a grower who accepts risk, has good pricing skills, a strong financial position, and believes markets are inefficient, but is a undisciplined marketer might have a pricing strategy of:
The pricing matrix can then be used to create a plan for a diversified pricing strategy. Importantly, it can also give you a basis for evaluating your pricing performance at the end of the crop year. By carefully tracking the returns from percentage of sales made in each quadrant of the pricing matrix a grower can compare the prices received. This real data provides a much better reflection of pricing performance than simply estimating your performance based on impressions and hindsight. CG
