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Hedging blunders: HTA crisis of 1996

Getty/Maximusnd market chart line on money
For many farmers and businesses, the HTA crisis was far worse than the economic crash of the early 80s

Note: This article is part three in a series of articles describing some of the hedging blunders I have seen over the years. By definition, a hedge is a market position in a market off-set by opposite position in different market. Often, what starts out as market risk reduction program becomes a very high stakes speculation position.  

The first hedge-to-arrive contract in Ohio – and possibly the Corn Belt – was written Dec. 29, 1984. It was done at Shepard Grain Company in Thackery, Ohio. George Shepard was the manager who wrote the contract for Dean Kite.

For years, Dean noticed that the basis for cash corn at delivery was consistently 10 to 20 cents firmer than he had locked in on a forward contract. To get those 10 to 20 cents into Dean’s pocket, Dean wanted to lock in the futures in the spring, but not lock in the basis until after harvest.

HTA contracts became a very common marketing tool because they made farmers money. Basis improvement on forward contracts was a major profit center for grain merchandisers. However, if a merchandiser did not offer HTA contracts, he would lose business.

HTA contracts become common tool

Over the next 6 to 8 years, merchandisers did capture additional income by attaching bells and whistles to the HTA and charging service fees. Options were attached to HTA contracts, rolling, lifting the hedge, initiating the HTA contract all had fees added.

Many farmers were allowed to cancel out profitable HTA contracts for 10 to 15 cents a bushel service fee and get a check for the balance. Many merchandisers allowed farmers to contract corn or beans, and, if the futures price was above the HTA price at delivery, farmers were often allowed to sell their corn at the current higher price and roll the lower priced HTA to the next crop year.

Because of the 1993 flood, farmers did not forward price much 1994 corn, which was the first 10-billion-bushel corn crop. December 1994 corn was near $2.00 that fall, and basis was 20 to 40 cents weaker than normal.

By the middle of December 1994, December 1995 corn was back up to the $2.55 range. It was a price “everyone” wanted to lock-in for their 1995 corn crop.

Farmers across the Corn Belt aggressively sold multiple years of production on a December 1995 HTA contract with the intention of rolling in the fall of 1995 or cashing out the HTA with a profit.  Hedged bushels were at least five times more than ever before.

Inverted market

A wet spring in 1995 and good demand had corn moving higher and farmers contracting more corn during the ’95 growing season. All the hedges in the December 1995 corn contract were losing about 65 cents when they needed to be rolled from December ’95 to December ’96.

But the corn market was inverted, meaning Dec 96 corn was lower than the Dec 1995. The roll would require a buy of the high-priced Dec 95 and a sell of the Dec 96 at a price 53 cents lower. The $2.55 HTA for ’95 would become a $2.02 ’96 HTA and below breakeven.

History showed inverted markets normally return to carry in about 4 to 6 months. Therefore, the Dec ’95 HTAs were rolled to July ’96. The plan was to roll to Dec ’96 when the inversion was gone. 

But the spring of 1996 was wet and cold. Speculative traders saw the grain trade was over-committed on the short July position, so they bought July corn, more and more every day. Their intention was to run the hedgers out of money and they succeeded to a large extent.   

HTA crisis

As coops and smaller private elevators across the Corn Belt ran out of money, their short positions were liquidated and that moved the price even higher. Those elevators which still held their hedge position had to put in even more money.

Many elevators demanded farmers deliver corn before they grew it or write a check to cover the hedge losses. Elevators sued farmers, farmers sued elevators, communities were torn apart as banks, grain elevators, and family farms struggled to survive. Many did not survive.

Dozens of courts tried to decide exactly what was a legal HTA contract and what was a speculative venture. If the HTA contracts were ruled speculative, illegal off-exchange futures transactions, farmers would not be financially responsible. There was a class action lawsuit filed by farmers against nine coops.

Very few lawyers, judges, or farmers understood how the markets worked, so legal action became a contest of who was willing to spend the most money to run their opponent out of money via legal fees. And you know who ran out of money first. 

The two sides could have negotiated a settlement to share the loss and still survive, but the grain industry refused and recruited the CFTC and CoBank to destroy the few elevators who did work out settlements with farmers.

For many farmers and businesses, the HTA crisis was far worse than the economic crash of the early 80s. The grain industry simply did not manage their financial exposure, something every hedger needs to do. 

Wright is an Ohio-based grain marketing consultant. Contact him at (937) 605-1061 or rjw1249@wrightonthemarket.com. Read more insights at www.wrightonthemarket.com.

No one associated with Wright on the Market is a cash grain broker nor a futures market broker. All information presented is researched and believed to be true and correct, but nothing is 100% in this business.

The opinions of the author are not necessarily those of Farm Futures or Farm Progress. 

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