Analysis of Alternative LGM-Dairy Contracts: A Wisconsin Case-Study

Analysis of Alternative LGM-Dairy Contracts: A Wisconsin Case-Study

Brian W. GouldDepartment of Agricultural and Applied Economics

University of Wisconsin-MadisonUniversity of Wisconsin Extension

November 25, 2013

Website Address: http://future.aae.wisc.edu

LGM-Dairy Website

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Bundled Options

UW Understanding Dairy Markets

Database System

LGM-Dairy Insurance System Rules

http://future.aae.wisc.edu/lgm_analyzer/

UW LGM-Dairy Integrated Software System

UW Feed Converter IOFC Estimator

Actual Contract Performance

Least-CostContract

PremiumEstimator

LGM-Dairy Analyzer

LGM-Dairy Tutorial

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Use of the UW LGM-Dairy Analyzer

Let's look at how one can use the LGM-Dairy Analyzer (Premium Estimator) Can look forward to next two contracts or

historically to previous periods Historical analysis based on actual data used

to determine LGM-Dairy premiums Future analysis can look 1 or 2 months in

advance Based on futures/options data available on the

date when the analysis is undertaken

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Structure of the LGM-Dairy Premium Estimator

Premium

Estimation

Historical Analysis?

Select Premium Estimator

Previously Entered Data

Production, Feed Equiv., Coverage %, Deductible Input

Form

Choose Date of Contract

Offering

Summary Table

Premium Sensitivity Analysis

Indemnity Determinati

onYES

NO

Indemnity Sensitivity Analysis

Futures and Options Data

Save to Excel File

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Farm characteristics 500 milk cows Purchase October 2010 contract Cover a portion of Mar – Jun 2011 margin 20,820 lb/cow annual whole herd average

LGM-Dairy: A Wisconsin Case Study

Contract defined by monthly % insured 44% of March - June production insured

Oct′10

Nov ′10

Dec ′10

Jan′11

Feb ′11

Mar ′11

Apr ′11

May ′11

Jun ′11

Jul ′11

Aug ′11

Sep ′11

1 2 3 4 5 6 7 8 9 10

PurchaseNo

Cover-age

Insurance Contract Period

Percent Insured 75% 50% 25% 25% 2

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Contract defined by contract deductibleBase example deductible: $1.00/cwt TEGM

Contract defined by declared feed useTwo feed use assumptions

Ration 1: Declare 100% of corn and SBM equiv.Ration 2: Declare only purchased feed• No corn silage • 25% of SBM equiv. met from own supplies

Files can be downloaded from the following future.aae.wisc.edu/lgm-dairy/wisc/WI_ration1_badgerland.csvfuture.aae.wisc.edu/lgm-dairy/wisc/WI_ration2_badgerland.csv


Initial Ration

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Month(2011)

Yield per Cow

(#/mth)

Milk Marketings

(cwt)

Total Feed QuantityFeed Ration 1 Feed Ration 2

Corn Eq. (T/mth)

SBM Eq. (T/mth)

Corn Eq. (T/mth)

SBM Eq. (T/mth)

Mar 1,851 9,255 194.1 109.1 117.5 77.6Apr 1,814 9,070 187.9 105.5 113.7 75.1May 1,879 9,395 194.1 109.1 117.5 77.6Jun 1,796 8,980 187.9 105.5 113.7 75.1

4-Mo. 1,835 9,175 764.0 429.2 462.4 305.4


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Month

Oct 2010 Expected Prices Actual Prices Actual – Expected

Prices

Class III ($/cwt)

Corn ($bu)

SBM ($/ton)

Class III ($/cwt)

Corn ($bu)

SBM ($/ton)

Class III ($/cwt)

Corn ($bu)

SBM ($/ton)

Mar-11 14.16 5.92 339 19.45 6.77 348 5.29 0.85 8.63Apr-11 14.15 5.95 339 16.80 6.81 347 2.65 0.86 8.21

May-11 14.13 5.98 339 16.53 6.86 347 2.40 0.88 7.80Jun-11 14.35 6.00 339 19.23 6.94 348 4.88 0.94 8.85

Average 14.20 5.96 339 18.00 6.85 348 3.81 0.88 8.37

Average Actual − Expected % differences: Class III: +26.8% Corn: +14.8% SBM: +2.5%


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October 2010 Contract Sales Date

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Upload previously saved dataSelect Year and Month

Select Deductible

This allows you to enter feed manually


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Save all calculationsto a spreadsheet file

Note the difference betweenFarm milk vs. Covered milk


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With Oct. 2010 contract completed all actual prices known by end of July 2011 June is last covered month

Software is smart enough to know which actual prices exist and evaluate actual indemnity If at least 1 actual price is known (but not

all) an estimate of the indemnity status will be generated

For those months with no actual prices, previous days futures used as an estimate


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Note: The TAGM was $146,204. The difference between the TAGM and TGMG was $66,407, much greater than the $4,293 subsidized premium paid.

0.00

0.10

0.20

0.30

0.40

0.50

0.60

0.70

0.80

0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 2.0

$/cw

t

Net Premium (Insured Milk)Net Premium (Farm Milk)

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Net Premiums Under Alternative Deductibles

Net Premium = Premium – Subsidy

• Oct. ′10 contract purchase• Cover portion of Mar-Jun ′11 margins

3.50

3.70

3.90

4.10

4.30

4.50

4.70

4.90

5.10

0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 2.0

$/cw

t

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Net TGMG Under Alternative Deductibles


Net TGMG = TGMG – Net Premium = TGMG – Premium – Subsidy

Let’s compare the above results obtained where all feed is converted to corn and SBM equivalents to the same contract but different feed use

Use ration #2 where all corn silage and 25% of SBM equivalent not declared Same amount of milk insured as in ration 1

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Lets compare Ration 1 vs. Ration 2

Note how with Ration 2, the TGMG ↑ while the premium ↓ compared to Ration 1

TGMG Net Premium Net TGMGRation

1Ration

2Ration

1Ration

2Ration

1Ration

2Total $ 76,797 123,304 4,293 3,343 72,504 119,961

$ Per CWT Insured Milk 4.78 7.67 0.27 0.21 4.51 7.46

$ Per CWT Farm Milk 2.09 3.36 0.12 0.09 2.09 3.27

3.25

3.75

4.25

4.75

5.25

5.75

6.25

6.75

7.25

7.75

8.25

0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 2.0

$/cw

t

Ration 1Ration 2

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Comparison of Net TGMG’s


Net TGMG = TGMG – Net Premium = TGMG – Premium – Subsidy

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Were There Indemnities?

Under both rations for the Oct. 2010 contracts there were no indemnities due to: Significantly higher Class III milk prices Relatively small increases in feed costs

As an alternative we will examine purchasing an October 2008 contract Use same rations as before Assume same milk production Only difference is with respect to expected

and actual prices

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October 2008 Contract Sales Date

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Month

Expected Prices Actual Prices % ChangeClass

III ($/cwt)

Corn ($/bu)

SBM ($/Ton)

Class III

($/cwt)

Corn ($/bu)

SBM ($/Ton)

Class III

($/cwt)

Corn ($/bu)

SBM ($/Ton)

Mar '09 14.53 4.28 285 10.46 3.67 284 -28.0 -14.3 -0.5

Apr '09 14.77 4.34 287 10.76 3.92 326 -27.1 -9.7 13.9

May '09 14.86 4.40 288 9.83 4.17 369 -33.8 -5.2 28.1

Jun '09 15.24 4.45 290 9.94 3.83 368 -34.8 -13.9 27.2

Average 14.85 4.37 287.50 10.25 3.90 336.75 -30.9 -10.8 17.2

October 2008 Contract Offering


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Let’s compare contract costs of 2008 vs. 2010 (Ration 1)

TGMG Net Premium

Net TGMG

2010 2008 2010 2008 2010 2008Total $ 76,797 115,045 4,293 5,028 72,504 110,016

$ Per CWT Insured Milk 4.78 7.16 0.27 0.31 4.51 6.85

$ Per CWT Farm Milk 2.09 3.13 0.12 0.14 1.98 3.00


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Lets compare 2008 vs. 2010 (Ration 1)

Indemnity Net Indemnity2010 2008 2010 2008

Total $ 0 54,336 -4,293 49,307$ Per CWT

Insured Milk 0 3.38 -0.27 3.07

$ Per CWT Farm Milk 0 1.48 -0.12 1.34


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TGMG Net Premium

Net TGMG

2010 2008 2010 2008 2010 2008Total $ 123,304 151,093 3,343 4,200 119,961 146,894

$ Per CWT Insured

Milk7.67 9.40 0.21 0.26 7.46 9.14

$ Per CWT Farm Milk 3.36 4.12 0.09 0.11 3.27 4.00


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Indemnity Net Indemnity2010 2008 2010 2008

Total $ 0 54,902 -3,343 50,702$ Per CWT

Insured Milk 0 3.42 -0.21 3.16

$ Per CWT Farm Milk 0 1.50 -0.09 1.38


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Ration impacts on 2008 covered milk net indemnities


2.00

2.20

2.40

2.60

2.80

3.00

3.20

3.40

3.60

3.80

0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 2.0

$/cw

t

Ration 1Ration 2

The previous analyses were looking at historical data

In the next example we want to obtain an estimate of the costs of a November 2013 contract

Unlike historical analysis we do not know expected prices

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The LGM-Analyzer uses the most recent 3 days of futures and options when expected prices are not known

The closer one gets to actual contract purchase date, → more accurate premium estimates

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Expected Prices

Month

2013-2014 2010-11 2008-2009Class

III ($/cwt)

Corn ($/bu)

SBM ($/Ton)

Class III

($/cwt)

Corn ($/bu)

SBM ($/Ton)

Class III

($/cwt)

Corn ($/bu)

SBM ($/Ton)

Mar 16.75 4.32 398 14.16 5.92 339 14.53 4.28 285Apr 16.73 4.36 394 14.15 5.95 339 14.77 4.34 287

May 16.68 4.39 392 14.13 5.98 339 14.86 4.40 288Jun 16.82 4.43 390 14.35 6.00 339 15.24 4.45 290

Average


Note: 2013-2014 expected prices obtained from an analysis undertaken on November 22nd

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TGMG Net Premium Net TGMG

2013 2010 2008 2013 2010 2008 2013 2010 2008

Ration 1Total $ 126,278 76,797 115,045 2,475 4,293 5,028 123,803 72,504 110,016

$/cwt Insured Milk 7.86 4.78 7.16 0.15 0.27 0.31 7.70 4.51 6.85

$/cwt Farm Milk 3.44 2.09 3.13 0.07 0.12 0.14 3.37 1.98 3.00

Ration 2Total $ 168,327 123,304 151,093 2,183 3,343 4,200 166,144 119.961 146,894

$/cwt Insured Milk 10.47 7.67 9.40 0.14 0.21 0.26 10.34 7.46 9.14

$/cwt Farm Milk 4.59 3.36 4.12 0.06 0.09 0.11 4.53 3.27 4.00


0.00

1.00

2.00

3.00

4.00

5.00

6.00

7.00

0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 2.0

Net

Pre

miu

m a

s % o

f TG

MG

Net Premium as % of TGMG

Ration 1Ration 2

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• Nov. ′13 contract purchase• Cover portion of Mar-June ′14 margins


6.00

6.75

7.50

8.25

9.00

9.75

10.50

11.25

0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 2.0

$/cw

t

Net TGMG Under Alternative Rations

Ration 1Ration 2

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Net TGMG = TGMG – Net Premium= TGMG – Premium – Subsidy


• Nov. ′13 contract purchase• Cover portion of Mar-June ′14 margins

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Contact Information

The Univ. of Wisconsin Dairy Marketing Website: http://future.aae.wisc.edu

Livestock Gross Margin Insurance: http://future.aae.wisc.edu/lgm_dairy.html

To join the LGM-Dairy Mailing List:http://future.aae.wisc.edu/lgm_dairy.html#5

Brian W. Gould(608)[email protected]

Analysis of Alternative LGM-Dairy Contracts: A Wisconsin Case-Study

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