As I explained in my last article maybe we aren’t being ripped off with the wheat basis, but it looks to me like we are being misled (ripped off) with the currency conversion being calculated within the basis!
Let me expand on this with some numbers and facts so that you can decide what transparency means and how we can achieve it in wheat pricing in Western Canada.
When you look on the major grain companies’ websites to see their western Canadian bids, this is what you will find something like this. For CWRS, for example, the posted futures value (let’s use $5.75 per bushel) is exactly the same number as the corresponding U.S. Minneapolis wheat futures value, which you would say is how it is supposed to be, right? Hold that thought for a moment.
Next, we’ll look at the basis they’re offering, which right now is fairly attractive at +$0.40 per bushel. So simple math would mean you take the futures value and add the basis to get a net price offered to you for delivery of that grade: $5.75 + $0.40 = $6.15 per bushel delivered to Lethbridge.
What the grain companies tell you is that they are including the currency conversion in their basis, and that’s why the futures value on their pricing sheet is exactly the same as the Minneapolis futures. That seems like a good answer. Or is it?
When I look at the pricing sheets from a U.S. grain company just across the border this is what I see: A futures value of US$5.75/bu. + a US$0.15/bu. basis, for a net price of US5.90/bu. I convert that to Canadian dollars and I get a value of $7.31/bu. ($5.90 x 1.24), delivered to Sweet Grass, Montana. This is $1.16/bu. more than the Lethbridge bid! Mind you this U.S. bid is for CWRS with 14 per cent protein, so to be fair we must deduct $0.15/bu. off the price to match our base grade of 13.5 per cent, so now there is only $1.01/bu. difference in prices.
The U.S. futures value of $5.75/bu. is set on the futures markets and posted for all to see. Open and transparent.
Currency exchange is also traded on the futures markets and posted for all to see. An $0.80 Canadian dollar converts to a U.S. dollar by using a factor of 1.24. Open and transparent.
The net price of $6.15/bu. is the price the Canadian grain companies offer to you. It’s open for all to see, but it’s not transparent as to how they arrived at that number.
Doing the math
Let’s apply some logical steps and simple math to this scenario and see why we have this discrepancy.
We have determined that the U.S. futures value converted to Canadian dollars is $7.31/bu.
The next important step is to figure out what basis the Canadian grain companies are offering. That is pretty easy. You take the futures price and subtract the net price they’re offering — the difference is the basis. So we take the futures price (US$5.75 x 1.24 = $7.13) less the net price ($6.15), and we get a -$0.98/bu. basis.
How come these numbers don’t match the grain company’s posted basis numbers of +$0.40/bu? Good question.
To be polite, I will say that the grain companies are using “lazy math” to establish their prices for wheat at this point in time. Don’t get me wrong — the basis levels they are offering are attractive and one may want to lock them in before they decide to change their math and readjust their basis calculations to correctly and transparently reflect the true converted futures values to the market place.
Let’s follow this math through using the grain companies’ methodology and apply the currency conversion to the basis as they say they are doing and see what we come up with.
If we take the currency conversion difference between the US$5.75/bu. futures price and the equivalent Canadian value of $7.13/bu., we have a difference of $1.38/bu. The grain companies are saying that they’re doing the conversion in the basis, so that value should show in the basis as +$1.38/bu. The posted basis that they show is +40c/bu. so there is a difference of $.98/bu. Why?
The only thing I can take from this is that the grain companies are taking the extra cash to offset their risk in the marketplace or just for profit.
Now to be fair ,I can see why the grain companies don’t want to post this as a -$.98/bu. basis. It just doesn’t look good and they would get too much flack from producers asking why their basis is so wide.
The last time basis levels were this high was about a year ago when weather and transportation issues forced a halt to grain movement and the grain companies widened basis out to stop the flow of grain coming into their facilities as they could not sell or move it and they didn’t want to own a lot of product at a time when there was so much risk in the markets. Today conditions are far different from a year ago so why is the basis back to these levels?
Maybe other market conditions are forcing companies to set such a wide basis. The only justifiable reason I can come up with for such a wide basis would be that they don’t have any sales in place, so they are taking additional protection to ensure that the wheat they buy now is at a profitable level in case the markets should fall before they can sell it.
If that’s the reason, they should post a transparent basis and send the right signal to the marketplace instead of playing a shell game with currency exchange and basis levels just to make themselves look good. In fact, it looks like they are taking a bigger piece of the pie and trying to hide the fact.
How are we going to get transparency in pricing? By being diligent and taking the grain companies to task when they fall back to using “lazy math” to determine their price offers. Give us proper market signals, don’t hide behind the basis.
If that doesn’t’ work then I guess we will have to push governments to legislate mandatory methodology for pricing grains in Canada that will give producers and buyers relevant and transparent market signals.
It’s the open market at work, but for the benefit of who?
Keep your pencil sharp and don’t be afraid to ask questions when something doesn’t look right.