Dairy Overview

The U.S. dairy business is a multi-billion-dollar industry. Dairy producers and manufacturers today face many challenges in production, operations and marketing. Dairy cows produce a perishable product—milk—and are milked two to three times per day, 365 days per year. Dairy manufacturers turn this raw commodity into finished goods for a multitude of uses, which are consumed anywhere from within a few days, weeks or months, to several years, in the case of specialty aged cheeses.

Along the marketing chain from producer to the consumer, milk and its components, such as butterfat and cream, will change hands many times and as such, each of the market participants have one thing in common – price risk.

At times the dairy market can experience extreme price volatility as dairy prices fluctuate from month to month, making it difficult for participants to ensure meeting their break-even-costs.

Dairy futures and options serve as effective tools for hedgers to manage the risks inherent to the dairy industry, and for speculators looking to capitalize on price or spread movement.  This module will provide an overview of the Dairy Complex at CME Group, and a general idea of how these contracts are structured. 

Introduced in 1996, the CME Dairy Complex includes futures and options on:

• Class III Milk
• Class IV Milk
• Cheese
• Butter
• Nonfat Dry Milk
• Dry Whey

Each of these products serves a different purpose and use in the dairy industry.

Class III Milk is known in the industry as “cheese milk”, because it is the milk that is used primarily in the manufacture of cheddar cheese and its by-product—whey—which separates from milk during the cheese making process. 

Dried whey is high in protein and low in fat, making it an ideal ingredient for food products as well as animal feed. Dry Whey futures offer opportunities for processors and food companies to the manage price risk involved in the processing and purchase of this key ingredient. 

Cheese futures and options provide the ability to hedge across all parts of the milk crush with a single contract, allowing processors and food companies to manage price and supply.

All three of these products, which encompass the milk “crush”—are the basis of futures and options contracts at CME.  

Class IV Milk, which is used to produce butter and nonfat dry milk, is used to hedge the risk involved in buying and selling liquid milk, as well as dried milk and butter.

As the supply and demand for butter changes, the need to store or take the physical product out of storage fluctuates as well. Butter futures and options are used to hedge the price differences this physical movement creates between nearby contract months and deferred contract months.

Nonfat Dry Milk is a storable product that is used in feed or food items, or reconstituted into milk. It can be consumed as a protein supplement on its own or used as an ingredient in the baking and confectionary industry.  It is traded throughout the world, making Nonfat Dry Milk futures a global price reference as well as a hedging tool and benchmark for this product.

The design of the Dairy futures and options contracts are structured to reflect the trading practices in the cash market.

Class III and Class IV Milk futures are based on a contract size of 200,000 pounds, Dry Whey and Nonfat Dry Milk are 44,000 pounds, Butter and Cheese are 20,000 pound contracts.

All dairy contracts have a twenty-four-consecutive month listing cycle to ensure that hedgers have the maximum flexibility in covering their risk exposure.  

All Dairy futures contracts are traded electronically via CME Globex, and are cash-settled rather than physically delivered.

The dairy industry is not immune to price risk caused by weather, production and global demand that impact other commodity markets. The availability of Dairy futures and options helps to smooth out the price volatility that participants in this vital industry face every day.