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Simply put, it's the Cash Price minus Futures.
It is never, Futures minus Cash.
Example....
Cash Rice Price Today.......$9.50
Futures Price Today...........$9.25
BASIS .................. 9.50- 9.25 = +$.25
In the corn and Soybeans it is
the same formula but basis is used more to quote the cash price.
This is done by adding the basis to the Futures. In the northern
states, the basis may be quoted as a negative number so when you add the
basis to the futures it is a lower price than the futures. This
adding of basis is
happening more and more in rice but is not all that common in the
Southern States.
So, if the Basis is stronger
than normal that means there is
stronger demand at that specific location or point. It is possible for the Basis to be
strong at one point and weaker at another. For instance, if Corpus
Christi Texas has a ship needing a final 10,000 bushels of soybeans to top off a ship,
they will shoot up the basis in an effort to get the beans into position
there. Meanwhile, Houston may not need any beans currently and
they actually drop their basis. This type of shift will move a
commodity towards another point of sale while the futures price may not
have changed at all..
This is VERY IMPORTANT...Basis is the KEY to farmer selling. Never
sell the cash into a bad Basis level. If the Basis is bad, sell
futures. If the Basis is good, sell cash. Basis tells us how
to sell.
Understand, this has nothing to do with
WHEN you sell, basis is only used for HOW you sell. For instance,
if the Basis jumps to a record level but you think the market is going
to keep going higher. Fine, sell the cash into the higher basis level
and buy futures. You used the basis to determine HOW to sell, but your still
long the market just as if you were in the cash market. All you
have done is sold or locked in the basis.
REMEMBER THIS...It is a combined process.
Futures and Cash must be looked on as the same thing. I put them
in the same account on my books. Don't check to see how you did only in the futures market.
Your not a speculator your a hedger using the futures to help sell your
cash crop. They should be combined in your mind and in your books.
I had a farmer once tell me
since he lost money in the futures and he would never
use it again. His story is like many. He had come to me the
year before saying
he wanted to sell his cash corn. I told him I would buy it but the
basis was so bad, he'd be better off selling futures now and selling
cash when the basis level was better. He'd never done this before
but said he'd give it a try. He sold
corn futures at $2.60 when the basis was a plus 15 cents. As you
can see he would have
netted $2.75 a bushel if I had not talked him out of selling cash.
So at this point, he was sold in the futures at $2.60. Three months later, the basis
was a plus 35 cents and the futures was up to $2.75. He decided to
lock in his final price. What did he
net? He sold futures at $2.60 plus the basis he finally sold at
which was 35 cents, so he netted $2.95. What would he have made if
he had not sold the futures at $2.60 but just sold the cash when he
first came to me? He would have received $2.75. What he made was the
difference between the 15 cent basis when he first decided to sell and
the final 35 cent basis. So why was he upset? He
was mad because he lost 15 cents in the futures. He could not
understand that he made 20 cents in the basis, thereby selling his cash
crop for an additional 20 cents. Would he have been better off not
to sell the futures, absolutely, but that is not the issue. That
is the WHEN side of the question. He had already decided WHEN to
sell. He was in my office to collect $2.75. What I did was
help him decide HOW to sell the crop. The HOW part of the equation
allowed him to sell the crop for $2.95. What he wanted was to have
his cake and eat it too. He was really upset because he could have
sold his corn for $3.10 if he hadn't sold futures. He kept saying,
"if I only hadn't sold futures." I kept saying, yes, if you hadn't sold
futures you would have made 20 cents LESS because you would have sold
the corn at $2.75!!!
I hope you get my point.
He thought it was his selling futures that cost him because he couldn't
combine the two issues in his mind. If he could have seen the two
together, he would have realized it was the decision of when to sell
that should have been examined. So never look at the Futures
separately unless your speculating. If you do that, then open a
second account and keep it separate from your hedging account.
By the way, the next year when he came in, he
sold the corn again at an even worse basis but because he had lost 15 cents in
the Futures the year before and even though he came out better, he wasn't going to do
it
again. So I bought the corn, sold the futures myself and then I
made over 25 cents on the basis improvement. It's not rocket
science, it's common sense.
Understanding the Basis will go
a long way to improving your final price.
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