By Phil Plourd, Blimling and Associates, Inc.
When it comes to commodity price risk management, it pays to seek out, evaluate and judiciously deploy as many tools as possible. That’s true in just about every industry, at every stop along the supply chain. But it’s going to prove to be exceptionally good counsel for dairy producers in 2020. Simply put, many producers will gratefully remember 2020 as the year they discovered the Dairy Revenue Protection (DRP) program.
DRP debuted in late 2018 as a new tool offered under the Federal Crop Insurance umbrella. As a practical matter, DRP works like a subsidized put option program, offering producers downside revenue protection for a known price. DRP joined the Dairy Margin Coverage program on the roster of government-sponsored price programs and received support from IDFA as part of its commitment to providing the industry with robust, market-based risk management tools.
With prices trending higher late in 2019, dairy producers began booking significant DRP volumes for 2020. By the end of the year, data from the USDA Risk Management Agency showed 31 billion pounds on the books for 2020 – roughly 14% of anticipated US milk production. That’s huge. Consider that, on December 31, combined open interest in the CME Class III and Class IV futures and options contracts totaled roughly 20 billion pounds.
During the first quarter, as concerns about COVID-19 increased and milk futures decreased, producers added more DRP coverage. By early April, the 2020 total reached 44 billion pounds, or about 20% of US production.
Now, with dairy product prices at the lowest level in many, many years, those DRP policies could pay out substantial revenue. Using this week’s futures prices, data from USDA/RMA and estimates from the Understanding Dairy Markets website put gross indemnities at nearly $1.1 billion for 2020. That works out to about $2.50 per hundredweight across all the milk in the program. But, in the second quarter, the average is over $5.00 per hundredweight, surely a huge help to policy holders.
Producers will also get some help from DMC. Enrollment is down for 2020, but those in the program could see as much as $500 million according to some estimates.
Now, with dairy product prices at the lowest level in many, many years, those DRP policies could pay out substantial revenue.