Agfarm Finance Newsletter – March – Irrigation Water, Options and Future Security Products.

Irrigation Water, Options and Future Security Products.

The irrigation water market is a diverse and sometimes complex beast with endless terminology. Given the regular discussions and appearance of water markets and allocations in the media, we thought it timely, with the help of Ruralco Water Brokers, to give an understanding of basic water market lingo and how farmers can finance their irrigation water this season.

The Lingo

Let’s start with some definitions. (Naturally) Each state and territory have different rules and terminologies, but there are some common themes and generalisations. To keep this simple, we’re going to use the Victorian Murray area as an example.

– Entitlement: the maximum megaliters (ML) purchased and allocated to a water user.
– Allocation: the per cent of entitlement in ML you can access during the season. This is determined by local water management bodies such as Murray Irrigation Limited. This can be zero.
– Security (of supply): most commonly there are three levels of security.
1. High priority: water available to owners before low priority water entitlements.
2. Low priority: water available after high priority allocations have been met.
3. Temporary: water available on any given day purchased on the spot market which must be used during the season it was purchased.
– Ownership: water can be owned permanently (over more than one season) or temporarily (for one season only). There are risks and benefits of each. Most irrigators have a portion of both.
– Trading: anyone can buy water, and as a generalisation, it can be traded like an ASX share, with the same basic principles of risk/reward regarding movements in price.
– Seasonality: the water industry has seasons. The Victorian Murray area is based on the financial year from 1st July to 30th June. At the start of each season, allocations are reset based on water storage levels and inflows.
– Carryover: the ability to take a per cent of last season’s unused water into the new season.

Now we have a base, let’s explore some of the ownership, purchasing options and strategies in a little more detail.

Ownership

Permanent Entitlement

Permanent entitlements (entitlement) give water owners certainty of annual entitlement (or access) which reduces the risk of not being able to access water as required. As we said earlier, entitlements vary in reliability and security. Higher reliability entitlements allow users to plan better, and this security is reflected in the purchase costs. The higher the reliability and security, the more expensive the entitlement.

Temporary Allocation (Temp)

Temporary allocations are bought and sold on the spot market. This option allows you to buy precisely your requirements at any point in time, without the capital outlay of purchasing permanent entitlements.
Pricing usually reflects supply and demand. In the current climatic conditions, temporary water costs are unified across the southern basin at $475-485/ML (2nd April) up from mid $200/ML six months prior.

Purchasing Options and Strategies

There are many objectives you need to consider before purchasing water such as trading rules and potential restrictions, carryover opportunities, historical allocations, increase in demand for a particular water source and overall cost to your business.
Below are a sample of options and strategies available to buyers to help manage access, price risk and cashflow.

Forward Allocation (forwards)

Forward allocation contracts allow users to lock in future water prices and certainty while only outlaying a deposit until the water is to be delivered. This can be used for current season water or over multiple seasons.
In the current market, the uncertainty of future allocations as a result of continued dry conditions is causing single season forwards to be more favourable than multiple season strategies.