Basis Strength—Catalyst or Cautionary Warning?
The challenges of this year’s growing season are now being manifested in a slow harvest season that continues to drag on with the calendar firmly in November. For those farmers who are harvesting and delivering grain, they face a welcome change at the elevator—basis levels that are exceptionally strong.
Is this a warning sign of a bigger crop problem or is it instead a short-run opportunity that needs to be capitalized on? Here is our view after closely synthesizing the historical records on basis and futures at this time of year.
Basis levels are strong—really strong in short-crop states
Take a look at state average basis values for the first week of November over the past 21 years:
The gray dots are values from 1998-2018 crop years with a 21-year average denoted by a black horizontal line. The red lines show where each state stands today. Hard-hit production states like South Dakota, Indiana and Ohio are way above the historical norms but other key states are not nearly as escalated.
Recent gains are mostly concentrated along river markets
Over the last month there have been some epic large moves on basis, marking a big contra-seasonal shift for this time of year.
But those increases are largely tied to river markets where barge rates have collapsed. Unfortunately, this is not a demand driven push, but instead a huge dive in barge freight with rates going from 60 cents a bushel in August to 35 cents a bushel today. This at a time of year historically that barge rates skyrocket. And with corn exports posting the worst track record in 18 years, it seems unlikely that this is a story of bushel shortages.
Is a strong basis good for futures?
The short answer is no. When we look at basis levels this time of year, what we find is that a strong river basis in early November tends to be associated with a likely decline in corn futures over November. The chart below illustrates river basis on the x-axis and futures change on the y-axis.
November is historically a bad time for a futures rally (in the 10 years presented, only seven saw rallies in November), but when basis levels are high we see downside risk on the board being amplified.
Both basis and futures seem vulnerable at this juncture. Keep in mind strong basis levels are the market’s way to encourage cash grain movement. Historically, upside potential is usually muted when basis is exceptionally elevated. We think following that playbook this year is a prudent decision.
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