The cattle crush allows livestock producers to gauge their upcoming crops and hedge price risks. The crush is a combination of feeder calves, feed (corn) and cattle ready for slaughter, and is used as a way to estimate profitability. (For more information on the cattle and livestock markets, check out Learn To Corral The Meat Markets.)
Buying the Cow
A feedlot will usually buy 750-pound calves, along with enough feed to turn them into 1,200- to 1,400-pound cattle. This fattening of the calf can take over six months, and utilizes about two tons of feed per animal. The crush is the use of feeder cattle futures, corn futures and live cattle futures that simulate the feeding process. The time it takes to transform the calf into market-ready beef is variable, due to weather, market forces or feed. The cash basis for each local market will be different, and therefore have a varying influence on the crush.
The gross feeding margin (GFM) is the difference between the cost of animal and feed minus the sale price of the calf. The GFM can fluctuate anywhere from 10% above cost to 10% below. This wide variance has driven the crush to become a viable way to hedge price risk.
The cattle crush for the feeding process consists of buying one feeder cattle and corn futures with the sale of a live cattle future. Since a feeder cattle contract covers 65 animals and a live cattle only covers 32, it is necessary to buy twice as many live cattle futures as feeder cattle. One contract of corn (5,000 bushels) is enough to feed one feeder contract or two live cattle contracts. (For more on how commodities trade, read An Overview Of Commodities Trading.)
The feeder contract will usually occur four to six months earlier than the live cattle, which is the amount of time it takes to bring a calf to slaughter. The corn contract will usually fall in between the feeder cattle and live cattle months. In this example, the feeder cattle contract will expire first. Some, but not all, feedlot operators will offset the crush before this time. Those feedlot operators who do keep the cattle crush open would provide hedges against any ongoing feed purchases.
Cattle Crush: By the Numbers
The value of the spread is calculated by adding the values of the corn and feeder cattle contracts, subtracted form the value of the live cattle.
For example, say a feedlot operator has June feeders at $100 per 100 pounds (cwt). One contract of feeder cattle is 50,000 pounds, so the contract value would be $50,000 [$100 * (50,000 pounds /100 pounds) = $50,000]. And let's say the same operator has March corn at $3 per bushel, which would equal $15,000 ($3 * 5,000 bushels = $15,000), making the total value $65,000. Now, let's say the same operator is short two December live cattle contracts at $90 per cwt. One live cattle contract is worth 40,000 pounds, so two would be 80,000 ($72,000). In this example, the cattle crush has a gross feeding margin of $7,000.
Of course, speculators can also benefit from cattle crush trades. Anyone who wants to profit from changes in the movement of meat prices can use this strategy. (For more about hedging and reducing your exposure to risk, check out Practical And Affordable Hedging Strategies.)
Cattle Crush Volatility
Buying feeder cattle and corn and selling live cattle at varying times throughout the year helps feedlots hedge price risks. Feeder cattle and corn prices account for most of the cost of beef, and are extremely volatile. Changes throughout the year are important to producers as well as consumers, to be able to manage the crush between input cost and selling price.
The term "crush" originated in the soybean sector, where beans are transformed into soybean oil and soymeal. The margin provides an indicator of return that will take into account the variables with the greatest price risk. The use of futures makes the crush easy to get in and get out of, with relative ease. The crush margin serves as a quick indicator of risk management opportunities or pitfalls, and help operators monitor the cattle and corn markets for marketing.
Any individual may have a different outcome using the cattle crush. The weighting of cattle prices and feed use, along with other miscellaneous costs, will determine if the cattle crush works for any individual farm. Regardless, the cattle crush can indicate if there are hedging opportunities when prices get into range.
The Bottom Line
The dramatic rise in grain prices over the past couple years has made the cattle crush a much more effective tool for farmers. Corn prices are up nearly 300% since their average of nearly 10 years ago. Rising temperatures on earth, along with increased demand from ethanol consumers and no noticeable increase in acreage, have led to higher grain prices across the board.
So, whether you are a feedlot operator or just a speculator, the cattle crush can help you determine operational costs for cattle, as well as predict profitability (or lack thereof). (To learn more about futures, see Minis Provide Low-Cost Entry To Futures Market.)