Taylor worked for the New Zealand Dairy Board and Fonterra in its formative years before setting up TDB and the Dairy Investment Fund. In its early years Dairy Investment Fund offered early-stage funding to a number of processing start-ups and also offered a cash-for-differences hedging milk price contract to help farmers lock in milk returns.
It later arranged capital to finance farmers’ Fonterra shares in return for the dividend return.
While that proved beneficial for farmers by freeing up capital, the fund was made redundant when Fonterra’s trading among farmers (TAF) offered similar benefits.
At TDB, Taylor has worked with farming clients on managing risk, including price risk management through Fonterra’s guaranteed milk price (GMP).
Taylor rues the loss of GMP which, he says, offered a relatively simple, straightforward way for farmers to reduce income price volatility. In the context of Fonterra scrapping GMP, he’s supportive of NZX’s milk price futures and options.
“What we have in a hedging instrument is a farmer being able to access what a customer is willing to pay for their milk at any point in time in the future.
“I think if farmers saw it as this look-through to a customer then they’d be more comfortable about what hedging is in principal.”
Farmers shouldn’t see trading in futures as a gamble but a way to create certainty.
But there are still positives and negatives in the new price risk management tool.
Aside from the obvious benefit of being able to smooth income volatility he believed a futures market would provide a more timely, accurate milk price forecast through the season.
Taylor says while information is available through GlobalDairyTrade, with forward contract information as well as futures information on commodity prices, it doesn’t transparently convert to a NZ dollar fair value in kilograms of milksolids and farmers seemed to put greater weight on the quarterly Fonterra forecasts.
The NZX milk price futures should be priced from the inputs of the milk price regulations or whole milk powder prices overlaid on Fonterra’s foreign exchange conversion rate, which he said had a good degree of disclosure.
Those views would be used by those trading the futures contracts and that’s where farmers would be able to look for milk price forecasting whether they participated in the market or not.
“The advent of the market will mean there’s a much better incentive to do the maths more precisely,” he said.
Pricing on the futures market will be a continuous disclosure making it more timely. Fonterra’s changes to forecast milk prices often came well after the rest of the industry had determined a change had occurred and that was “enormously frustrating”, he says.
“All farmers should have access to that information in a much more timely manner so they can make the best decisions onfarm.
Another positive was the ability for farmers to participate in the futures or options markets at any time through the season whereas they were restricted to set times with GMP.
The current low milk price environment was a negative in terms of the timing of the market’s launch because opening prices were likely to mean farmers faced hedging a milk price that was still unprofitable.
At the same time they had to deposit cash up-front into margin accounts to participate in the market.
Low milk prices made it less attractive for banks to immediately consider using the futures market as a wholesale market and developing an over-the-counter product for their clients that was simpler for them to use than participating in the market directly.
If prices were higher those kinds of products might have been considered sooner, helping banks move past the reluctance that comes also from their bad experiences with interest rates SWAPS to farmers.
More: https://www.farmersweekly.co.nz/milk-price-derivatives/
