June 19, 2017

Use of Dairy Markets Growing

 |  By: Robin Schmahl

Trading of dairy futures and options for milk has been around since its inception in 1996. After a slow beginning, contracts were eventually moved to a cash-settled basis. This greatly improved liquidity and friendliness of trading. Other dairy product contracts were added as time progressed with the current offering diversified, but not yet complete. There are no contracts available for trading Class I or Class II milk. Whether these will ever be made available in not known.


We have what we have and that is certainly good as it allows many hedging opportunities for the industry as well as opportunities for speculators. Trading volume has had its ups and downs throughout the years with much of the activity based on market volatility and outlook. There have been periods when volume was low due to periods of market stability.


The good news is that interest in trading for the dairy complex is moving in the upward direction. The CME Group recently released January-May 2017 dairy trading information. Combined daily volume of futures and options in the dairy complex is up 30 percent year-over-year averaging 5,000 contracts per day. Dairy options had 69 record open interest during this five-month period. Open interest for both futures and options at the end of May showed a combined total of 239.040, up 13% year-over-year.


The growth of open interest is fueled by options, which are traded actively on the floor of the CME group, increasing the viability of the market. Floor traders can do futures positions in conjunction with options for the purpose of managing their risk exposure, but they cannot trade outright futures position in the dairy pit. Outright futures positions must be done on the Globex electronic platform. Both futures and options can be traded in any dairy contract using electronic order entry. The move is being made slowly to electronic daily spot trading, with butter and Grade A nonfat dry milk already being traded that way. There is no date for when block and barrel cheese spot trading will be moved to the electronic platform. This is a growing market and one that is needed and very important.


Dairy operations are at risk of milk price movement and prices need to be protected from falling below production costs.


Another area of risk


A pattern seems to have been set when Grassland Dairy Products in April sent letters to some milk producers that they were no longer picking up their milk. This was due to the loss of the ability to export ultrafiltered milk to Canada. This was a loss of business which required them to take action. In May, Dairy Farmers of America’s Dairy Marketing Services (DMS) sent letters to independent milk producers that the cooperative will no longer accept their milk later this year unless they join DFA or find another market for their milk. These independent farms have six months to make a decision as to their intentions. This affected farms in Ohio, Indiana, Pennsylvania, New York, and Kentucky which contribute about 10 percent of the milk marketed by DMS in Federal Order 33. Last week, Galliker’s Dairy Co. will cease purchasing milk from 11 farms in Pennsylvania due to oversupply of milk. These farms have 30 days to find a new processor for their milk. It appears the standard has been set in the dairy processing industry if too much milk is being received or markets have changed. It is unclear whether this will gain in momentum, but it certainly opens the door for further actions such as this. The dairy industry is changing as milk production continues to grow and with this growth, challenges will abound.