By Cargill Risk Management
It is an interesting and volatile time in the European dairy sector. As the European Union (EU) scales back planks of its common agricultural policy (CAP), a new market reality is emerging.
The removal of quotas and other centralized price controls means that Europe is becoming a more liberalized market for dairy. It also is becoming a more volatile one, with pricing in Germany that now regularly diverges from, say, France or the Netherlands.
The potential need for risk management in this unprecedented environment is tremendous. As a point of comparison, Europe is three times the size of the U.S. market in terms of the total volume of physical dairy products. Yet even as it starts to see an increase in the use of risk management tools, the European dairy market is still lagging the U.S. in this regard.
Processors and end users need these solutions in varying ways. Though end users have been driving most of the discussions, producers and processors are beginning to voice urgency around the need for better solutions, as well.
For instance, some futures contracts are simply a blend of the prices being offered in different EU countries, but this price blend may not reflect the real risk to which market participants are exposed. Although futures market liquidity is increasing, new and more sophisticated tools such as OTCs are needed to better manage price risk.
Pricing options to help compete
Cooperatives and some processors may also find themselves at a disadvantage if they are not giving price flexibility to their supply chain partners – that is, the farmers selling to them and the end users buying from them. This, too, can be achieved through risk management solutions and is a large incentive that can help these organizations protect their market share for both buying and selling.
In light of this shifting landscape, here are some questions to ask:
- Would we remain competitive internationally if there was a significant swing in prices in our region?
- Would farmers who sell to us be more likely to sell somewhere else if they were offered additional price protections?
- Likewise, would customers be more likely to sell to us if we could help them capture additional margin in case of a price move?
The good news is that there is plenty of reason for optimism. The European dairy sector is in a similar position to where the U.S. sector was a decade ago. Since then, a robust market has evolved in the U.S. with strong liquidity and price risk management tools that give producers, cooperatives, processors and end users a wide range of options and a high degree of flexibility. Meanwhile, growth in OTC and futures markets have reinforced one another to the whole sector’s benefit.
This could be Europe’s future as well. Cargill Risk Management has experts across the globe who are keeping this potential change on their radar – specifically Sonia Garnier, our dairy expert in Europe. Market participants should begin to plan how they will take advantage of risk management strategies to give themselves increased pricing flexibility so they are more attractive to buying and selling partners. Doing so now could give them an edge in the days ahead.