FMPSA

Frequently Asked Questions about Forward Milk Stabilization Services


What is a Dairy Support, Inc., Forward Milk Price Stabilization Agreement?
A Forward Milk Price Stabilization Agreement (FMPSA) is a risk management tool. It is similar to forward milk price contracts that fix a portion of the milk price producers receive, or handlers pay, during the term of the agreement. Forward price contracts are commonly employed between producers and cooperatives or handlers that purchase milk and other agricultural commodities, or between producers and sellers of feed, fuel, energy, and other supplies to fix a price for the future.

What is the purpose of an FMPSA?
FMPSAs, like forward contracts, serve a number of financial and risk management purposes such as mitigating the risk of price or cost volatility and satisfying concerns of your lender or financial advisor about cash flow.

How does an FMPSA differ from a forward price contract?
A traditional forward price contract is between a seller and a buyer. The buyer and the seller share the risk of price volatility in a traditional forward price contract. An FMPSA, in contrast, is not an agreement fixing the price for purchase or sale of a product. Rather, it is an agreement for financial or risk management services between you and Dairy Support, Inc. The price you receive or pay for milk remains subject to contract terms between the buyer and seller and price regulation by federal and/or state agencies.

The FMPSA fixes a price or price formula called “Basis Price” that defines the risk shared between you and Dairy Support, Inc., for a portion of your milk production or milk purchases. If you are a producer, payments are made by Dairy Support to you when market or regulated prices for the month fall below the “Basis Price” you have defined in your FMPSA; payments are made by you to Dairy Support when market or regulated prices are higher than the “Basis Price” for the month. If you are a handler, Dairy Support makes payments to you when market or regulated prices for the month exceed the “Basis Price” you have defined in your FMPSA; payments are made by you to Dairy Support when market or regulated prices are lower than the “Basis Price” for the month. In a traditional forward price contract, similar payments would be made directly between the seller and buyer of the product.

How does an FMPSA differ from milk and dairy product futures and options traded on the Chicago Mercantile Exchange?
The CME offers a variety of milk and dairy product futures and cash transactions that offer significant risk management tools for producers, cooperative associations and handlers and also influence current and future market prices for milk and dairy products. Trading on the CME carries its own risk. As any commodity broker will tell you, trading futures, futures options and other highly leveraged instruments carries a significant risk of substantial loss. For this reason, persons who trade futures and options on the CME must sign a risk disclosure statement required by law.

CME futures prices for milk and dairy products, at the time a contract is made, vary from month to month for the future period to which the contracts apply. For example, March 1, 2005, trading on the CME resulted in Class III futures contracts with eight different monthly prices, ranging from $15.65 to $13.02, for the months of April through December 2005. If you wanted the same fixed price for each of the nine months of April through December, that is not available on the CME. Also, trading on the CME requires a deposit called a “margin” on your futures contracts. An FMPSA, like a traditional forward price contract, allows you to receive a fixed price for a portion of your milk over a period of months, and no margin deposit from you is required.

Information on the CME and milk-related products traded on the CME can be found on the internet at http://www.cme.com/. You should consult your financial planner or a commodity broker before you decide whether CME trading, or even FMPSAs, should be part of you risk management portfolio.

How is the Basis Price for the FMPSA determined?
The Basis Price in an FMPSA establishes the shared risk between you and Dairy Support during the term of the Agreement. It defines the money we will pay to you, or you will pay to us, in order to make more uniform your receipts or costs for milk. For Dairy Support, the Basis Price upon which we are willing to agree will depend on our own opinion of market factors for the future, including prices on the CME, milk and dairy product production reports by USDA, conditions unique to the market in which you sell or buy milk, and a variety of other factors. To assure you the Basis Price for which we contract, we will match your needs and cover our own risk by one or more of the following: trading on the CME; FMPSA contracts with buyers or sellers that complement your needs; and other means.

You will have to determine for yourself, after consultation with your financial advisors and independent risk management professionals, whether the Basis Price we may offer and other terms of an FMPSA meet your needs, or whether it reasonably reflects the future value of milk or dairy products, if that is your objective. After consultation with your financial advisor, you may decide that better income predictability, which is all that is offered by an FMPSA, is more important to your business than capturing an anticipated market value of milk in the future – a value that may not be there when the future comes.

Where can I get information to estimate for myself the future value of milk and dairy products, to form my own opinion concerning the reasonableness of an FMPSA Basis Price that I may negotiate, and to learn more about risk management?
You should consult with your financial advisors prior to making any contracts for forward pricing, FMPSAs, futures, or other risk management strategies to determine which strategy, or combination, may be right for your business.

A wealth of information and education is available through the Extension Service Program, a partnership between USDA, individual states, and State Universities. To locate the county Extension Office nearest you, go to the USDA web page directory for Extension Service Offices at: http://www.csrees.usda.gov/Extension/index.html. University Extension Services for each state can be located on the USDA web page at http://www.csrees.usda.gov/qlinks/partners/state_partners.html. Universities that serve as partners in the Extension Service Program commonly sponsor risk management education programs, provide publications on dairy-related price and production trends, and offer links to information sources such as USDA reports and CME reports. Among the many University Extension programs with information of specific interest to milk producers are: Milk price forecasts are periodically published and updated by USDA on the following websites: Office of Chief Economist, World Agric. Supply & Demand Estimates - http://www.usda.gov/oce/ and the Economic Research Service, Livestock Dairy & Poultry Outlook Reports - http://www.ers.usda.gov/publications/outlook/. Milk price forecasts, analysis, and links to dairy-related information from other sources are also published periodically by diary economists at Penn State http://dairyoutlook.aers.psu.edu/, the University of Wisconsin http://www.aae.wisc.edu/future/front_outlook.htm, and others.

CME reports provide the current collective opinion of traders on a given day concerning the projected value of milk and dairy products in the future. As you may know, these opinions may vary greatly from one day to the next. CME price information is available on the CME website http://www.cme.com and are summarized by observers of CME trading in a daily report on http://www.dailydairyreport.com, and in other publications.

Dairy production, price, futures and market information, or links to information, are also contained on a number of other educational and commercial web sites, including http://www.cpdmp.cornell.edu, http://www.dairyline.com, http://www.dairyprofit.com, http://www.aae.wisc.edu/future, http://www.dairy.nu, http://www.valleyfutures.com, http://www.dairybusiness.com.

Risk Management education and training are also available through government, university and commercial institutions, including: USDA’s Risk Management Agency http://www.rma.usda.gov, and Economic Research Serv. http://www.ers.usda.gov/briefing/RiskManagement; Penn State http://dairyoutlook.aers.psu.edu/outlook/Training/Training.htm, Univ. of Wi. http://www.aae.wisc.edu/future/, Texas A&M http://trmep.tamu.edu, and the University of Minnesota’s National Agricultural Risk Education Library http://www.agrisk.umn.edu.


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