Do cattle feedlots manage animal health risk and output price risk independently or jointly?  

January 6, 2025
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Dr. Schulz

Chief Economist

That’s the question we asked Dr. Lee Schulz, Chief Economist at Ever.Ag. He said there is peer-reviewed research on this very topic and pointed to a paper he and coauthors published in the Journal of Agricultural and Applied Economics.

Dr. Lee Schulz

Past research has focused on price risk or production risk in isolation, says Schulz. Few studies have sought to understand the relationship between multiple risks and no study has investigated how feedlot operators actually manage these multiple risks which can have major impacts on profitability. This study sought to fill this gap. With a fixed budget to work within, feedlot operators face a critical choice. They might opt to invest more in strategies to reduce animal health risk, potentially forgoing the use of price risk management tools. This would be an example of substitution. Alternatively, these two strategies—managing animal health risk and output price risk—could work in tandem. By enhancing animal health, operators could minimize production uncertainties, enabling better alignment of their operation’s output with futures or options contracts or insurance policies. This could potentially lead to greater use of these financial tools. This would be a complementary relationship. This research explored whether these strategies act as substitutes, complements, or are unrelated, providing valuable insights into the decision-making process of feedlot operations.

In many situations, on-farm decisions are not directly observable, and thus to study these decisions, researchers rely on primary data collection. Feedlots in Colorado, Iowa, Kansas, Nebraska and Texas were surveyed for this study. After answering several introductory questions, survey respondents were asked to participate in a choice experiment which is a research technique for simulating decision making. The respondent’s past use of risk management and attitudes concerning risk were also obtained in the survey. The survey data facilitated economic models to be estimated.

Results of past risk management behavior suggest a relationship exists between animal health (purchasing feeder cattle directly from sellers) and output price (spot market only versus establishing a selling price) risk mitigation strategies. Overall, there is a negative relationship between single source feeder cattle purchases and solely pricing in the spot (cash) market. Conversely, a positive relationship exists between single source procurement and using an output price risk mitigation strategy (not solely using the spot market for price discovery).

By utilizing the choice experiment data, evidence was found of a complementary relationship between the willingness to pay a premium for single-source feeder calves, originating from a single ranch, and output pricing information. The output pricing information was the information needed for a futures hedge, including the live cattle futures price and expected local basis. This complementary relationship could be one reason why producers hedge output price risk less than expected. If more single source cattle were available, offered at a lower premium, or if producers had more confidence in cattle performance regardless of the source, they might be more likely to hedge fed cattle prices. The reduced uncertainty in performance—like finish weight or death loss—would make it easier for producers to match their production with futures contracts.

Interestingly, no link was found between knowing the source of feeder cattle and using price risk management strategies. Potentially, feedlot operators largely ignore incoming cattle characteristics because the decision is already made. As a result, this sunk decision will not be factored into future considerations. Additionally, the management of animal health risk and price risk is typically handled by different managers at the feedlot, meaning these risks are managed independently, even though they could potentially be addressed together. Emerging solutions that offer greater certainty regarding cattle performance could alter this approach, allowing operators to avoid viewing the purchase of feeder cattle as a sunk cost.

The findings of this study are also important for ongoing policy discussions regarding the use of risk management programs by livestock producers, including Livestock Gross Margin (LGM) and Livestock Risk Protection (LRP), both of which are offered to customers by Ever.Ag. The results indicate that the effectiveness of premium subsidies in promoting participation in these programs may depend on other risk management strategies in place and could be lower than anticipated if producers are also managing animal health risks. However, increased certainty about cattle performance could enhance the likelihood of participation in these insurance programs.

Dr. Schulz emphasizes the value of comprehensive animal health management, stating, “By providing diagnosis, prevention and treatment of disease, as well as ongoing monitoring of health status, there’s more certainty about production in the broader supply chain and segments of the industry are more likely to make investments they otherwise would not have made.”

The journal article, “Management of Multiple Sources of Risk in Livestock Production” is available online.

Learn more about LGM–Cattle or LGM–Swine insurance.


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Dr. Schulz

Chief Economist

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