Higher wheat supply = lower basis?
The Snapshot
- It is close to a surety that the crop will be large, not record but large.
- The basis level tends to be an inverse of production. When production is high basis is low (and vice versa).
- If the crop in NSW achieves forecasts set by ABARES, then basis will likely come under pressure.
- It’s essential to look at both futures and basis. If you can lock in a profitable futures level, then basis is the cream on top.
- Futures tend to make up the majority of the overall price in Australia, with basis increasing in importance during drought years.
- It is relatively rare to experience extended periods of negative basis.
The Detail
The price received by producers is comprised of fx, futures and basis.
The basis level in Australia tends to be positive, providing growers with a premium over Chicago futures. The primary driver of basis is supply. A year of low production will result in high basis, and one of large production will lead to a decline in our ‘premium’.
I covered this briefly in ‘What is basis?’
In this article, I am looking closely at NSW (at port) to provide an insight into the logic. Similar patterns are likely in other states (and other charts are available on request).
This year production is forecast to rebound significantly. With the recent rainfall, we are almost assured of having a big crop. This is especially so in NSW.
The below chart shows the production of wheat in New South Wales, along with the annual average basis for that particular season. In 2016, the last big year basis levels slid from previous years conversely 2018 & 19 saw production fall and basis rise.
This basis is generally driven by domestic consumers. In the past two years, consumers had to pay up to stop the wheat leaving the country. Therefore the basis increases due to scarcity of supply.
I like to think of basis as the cream on top. The reality is that futures are a larger contributor to the overall price than basis. If we lock in a strong futures level, then the basis is the cream that we can concentrate on.
The chart below displays the composition of price from 2010 to present. The basis level increases in importance as our supplies dwindle. During 2012, another period of healthy production levels, basis remained negative for a period.
If we look at the long term history, locking in a good futures pricing level will likely result in basis being a bonus. At present December futures are trading at A$283, in recent years futures have been <A$200.
If basis levels suffer due to harvest selling pressure, at least futures are holding up (at present).
