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Psychology of Hedging

If you have been a Brock Report subscriber for even a little while or have attended at least one of our Brock seminars, then you should already be familiar with the graph below that Rick uses to explain the different emotions of marketing. Greed, hope and fear describe what can be the emotional roller coaster of marketing. Anytime you sell some of your grain, you should actually be reducing the emotional stress that goes along with marketing. If you are long 100% of your old-crop corn, you are carrying a lot of risk and your emotional stress might reflect that. Hypothetically, if you were to sell half of your old-crop corn, you have reduced your price exposure and hopefully reduced emotional stress as well.  Realistically, hedging on the board should have the same effect because, like selling your cash grain, hedging on the board is ultimately reducing your price exposure. But for many, entering a hedge on the board might only magnify the emotional roller coaster they are currently on. Although this should not be the case, there’s no denying that for many, it certainly is. So, to be able to participate in an effective hedging program, it’s important to develop the proper perspective.

Here are a few thoughts that might help. When we are hedging with futures or options, it’s important to remember that we are playing defense, not offense. We are trying to protect value in your grain by defending what we believe is a good price. We are not trying to make money. Also, many times we do not put a hedge on because we are confident which direction the market is going. We may put a hedge on because we are uncertain which way the market is going. As always, there can be exceptions. For example, if we feel prices have bottomed and there’s a chance for a bull market to develop, we may recommend re-owning previous sales. This would certainly be an “offensive” move, with the goal of adding to the net sale price of your grain. I will say, although we “might” do this, we don’t very often. 

Also, if you are always looking at your hedge position to see if you are making money or not, this will only significantly add to the emotional roller coaster, not reduce it.

In my opinion, if you have locked in an attractive price on a hedge position and the market appears to be heading lower, avoid the temptation of taking a quick profit. The job of that hedge is to lock in an attractive price. When you exit that position even with a profit, you are now back to the drawing board in terms of locking in a price.

Making good trading decisions in futures is not easy. Taking profits on a hedge means you now need to make two good decisions in a row. The one to exit and the one to get back in. Again, there can be exceptions to this. If you have decent profits on a hedge (Maybe $.75+$1.00 on soybeans or $.50 on corn for example,) you might want to try to protect those profits either with a stop or maybe an option. If you do make $1.00 on a bean hedge and exit, at least that $1.00 profit will go towards your net selling price. And on the flipside of that, if you put a hedge position on and right away you don’t feel comfortable with it for whatever reason, don’t be bashful to get out quickly. Feeling uncomfortable with the position and taking a small loss is much better than waiting until you feel like you have too big of a loss to get out.

There are two other primary ways to reduce the emotions of hedging. One is to use no-margin options strategies. Having a known and limited risk, and also knowing you won’t have to face a margin call can make things a lot less stressful. Another way of possibly reducing the emotions of hedging is to set up a security agreement with your bank. This simply allows your bank to be in charge of depositing your funds in the hedge account on your behalf. This can remove you from the stress of meeting margin calls. No matter what though, for some, hedging on the board adds more to the emotional roller coaster than they care for. And this is why we offer advice for cash-only marketers in the Brock Report.

-Dave Behrel. DBEHREL@BROCKREPOR.COM

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