On this episode of Odd Lots, we speak to Stinson Dean, the founder of Deacon Trading, about the soaring price of lumber and the general lumber market structure. You can find the episode here. Transcripts have been lightly edited for clarity.

Joe Weisenthal: Hello and welcome to another episode of the Odd Lots podcast. I’m Joe Weisenthal.Tracy Alloway: And I’m Tracy Alloway.Joe: So Tracy, I’m guessing there isn’t much construction of new homes anymore in Hong Kong is there?

Tracy : Um, there’s always some, but we definitely aren’t having a housing boom, like the U.S.

Joe: It is absolutely crazy what’s going on here. There is a housing boom here. There is a renovation boom. People are buying existing houses, driving the prices up. People are starting new homes. It’s super wild what’s going on here in real estate.

Tracy: Yeah. So I’ve seen a lot of stories on this. And then of course one of the things I’ve seen that’s been really striking, is the price chart of lumber. And that’s just been absolutely soaring and is actually like— I see it mentioned in the Pantheon of meme stocks nowadays. But of course, lumber is an actual thing that people use to build homes and other important structures.

Joe: It is kind of becoming a meme stock. Lumber itself. Like there’s like meme stocks and crypto, and now people are making TikToks about the price of lumber. And the line literally is just straight up for days. We’re recording this April 21st and actually in the last two days, I think, lumber actually sold off a bit too. Maybe, I don’t know. Maybe there’s some sort of peak, I have no idea, but the point is for days and days in a row, the lumber futures market went limit-up every single day. It’s absolutely wild. And it’s like becoming a cultural thing — how much wood costs right now.

Tracy: Yeah. It’s also sort of becoming a moment for, I guess, Lumber Twitter, which is a really interesting community as I think you recently discovered, right? There’s a really vibrant conversation around the lumber industry and lumber trading, construction, things like that. Online lumber’s having its moment in the sun. And I just have to say, this is our chance to dive into lumber market structure. I’ve been doing a little bit of research. It is an absolutely delightful market. Like just some of the terms that they use, like stumpage fee. That is such a great word.

Joe: It’s great. There’s so much good stuff here. There’s the futures market. There’s the cash market. There’s all these different entities. There’s the lumberyards, the sawmills, the forests, the timber yards where they sell timber or turn it into lumber, there’s the home builders, everything. Just a super interesting market that up until very recently, probably very few people other than people in the industry had thought about, but now everyone wants to learn. And you mentioned Lumber Twitter, it’s kind of taking over everything. And the guest we’re going to have on today — we recently had him on TV to talk about the lumber market — and I’ve never posted a clip that got so many views. I think it was literally one of the biggest ever. Everyone wanted to hear more from the guest. So we had to get him on the podcast to really do a true, a deep dive into what’s going on right now and how lumber market structure actually works.

Tracy: For sure. Let’s do it.

Joe: All right. So I’m very excited to go — we’re going to go deep on the lumber market. We’re going to be speaking with Stinson Dean. He is the CEO and founder of Deacon Trading, which is a lumber trading shop that operates all over the country. He’s @lumbertrading on Twitter. So he’s sort of become one of the preeminent lumber, Twitter experts blowing up. Now everyone wanted to hear him on Odd Lots. So, Stinson. Thank you so much for for coming on.

Stinson Dean:Yeah, thanks for having me. I’m excited to talk potentially endlessly about all the nuances of lumber.

Joe: We’re going to go super deep on lumber. So I have this idea (I’m an expert on lumber now because I’ve been paying attention to it for two weeks), I have this idea that there’s, you know, there’s the home builders and they buy from the lumberyard. And the lumberyards buy from the sawmills and the sawmills have a lot of pricing power these days. But why don’t you give us the sort of very high level overview of the different players in this market and also specifically what Deacon Trading does and how it fits into the sort of the broader lumber trading ecosystem.

Stinson : Sure. So the players in the supply chain, there’s the producers on one end and the end users, which would be the home builders on the far end. And it’s easier to kind of start with the home builders. So the home builders are going to buy from what we call lumber dealers, commonly called lumberyards. Those are the lumberyards that you and I aren’t allowed to walk into. They’ve got the high fences, they’re big, there’s a lot of activity going on and they sell only to commercial accounts, home builders and large contractors, and they sell them framing packages. So it has the OSB and other sheeting and panel goods.

Joe: Wait, what’s OSB?

Stinson: Oh, oriented strand board. That’s the sheeting that goes underneath like your roofing shingles.

Joe: Great, okay keep going.

Stinson: And that for the record, it’s in even worse of a shortage or at least from a pricing perspective than lumber. It’s really insane, but it’s like the most common kind of four by eight sheet you see on the end cap at Lowe’s when you walk in, okay. The point being the lumber dealer buys in bulk, all of these different products that go to build a house, and then they put them together in smaller housing packages, a little bit of each and deliver it to you. Your pads and job sites, right? So the lumber dealer buys in bulk, all these building materials and the bigger the lumber dealer, the more likely they buy direct from the producer. So I would say most of the lumber that goes into a home was produced at a sawmill and sold directly to a lumber dealer and then put on a flatbed truck for a framing package to the home builder. So it’s pretty efficient in that way, but it’s a highly volatile commodity where there’s frequent scrambles for supply.There’s scrambles of oversupply, where you’re scrambling just to get rid of whatever product you have. And there’s all sorts of breakdowns in the supply chain. So it sounds easy. Hey, Canada, Canadian sawmill to lumber dealer in Houston, Texas, to home builder. But the reality is that lumber purchased in Canada, you had to make that purchasing decision eight weeks before you actually get the lumber. And so you’re having to anticipate what are my lumber needs two months from now? And when the market gets really hot, it’s like you’re 12 weeks out. And these lumber dealers and the buyers that work for them are often in a really impossible decision to forecast — and they all get their heads together and they try to forecast how much, how much lumber do we need? So in between the sawmill and the lumber dealer, there are several different types of wholesalers or middlemen-type folks. And that’s where I fit in.And I said on the show. I look at myself as a liquidity provider because the market is illiquid as a physical market and a futures market. So it just gets scarce very fast or oversupplied very fast. So I can stand in the middle and provide liquidity to sawmills that have a backlog of inventory, or I can provide liquidity to a lumberyard that misbudgeted 10 weeks ago, it needs prompt wood tomorrow because where I sit, I buy lumber from Canada and eight weeks later I have it in anticipation of someone needing it over the next 30 days because they misforecast eight weeks prior.

Joe: Right.

Stinson: Okay. So that’s where I sit. And there’s not a lot of us because I take a tremendous price risk. The second I agree to buy lumber. I have risk on. It won’t ship to me for two to three weeks if the mills are shipping on time and they’ll take three weeks if the rail lines aren’t running slow to actually get it, and then another 30 days to market it. So I have risk on for a significant amount of time. The other type of wholesaler in our supply chain — and this kind of rounds it out — we call them a transit wholesaler where they buy the rail car and they immediately try to sell it to a lumber dealer before it ships. And they’ll, typically like right now, mills are selling for June production. So a wholesaler could buy a handful of cars for June and then they have six weeks to find a destination for it. And that’s kind of the, that’s more common, there’s less risk. They try to kind of sell it before they pay for it. And that’s more or less their model.

Tracy: So you laid out the ecosystem really well for us. Talk to us about how I don’t want to say how bad things are at the moment, but how intense the price surge has been? What the scramble for wood actually like and where in the ecosystem those pressure points are coming from?

Stinson: It’s a short squeeze. It’s from the dynamic of the sales model that lumber dealers, I think, I don’t know really how they did it before the recession, but coming out of the recession, they’ll commit to deliver lumber, 60 to 90 days out sometimes.

Joe: Just to be clear, when you say the recession, do you mean the last recession? Like the 2008, 2009 one?

Stinson: Right. The great one, which was the epicenter of the housing crash. And since then the model has been, and maybe this was modeled before I wasn’t in the industry, but they commit to these sales. Let’s just say 90 days worth of sales, the most inventory these folks can hold is 45 days because of cash constraints and kind of how they manage their inventory. When they’re bullish they’ll go 45 to 55 days. When they’re bearish, they’ll work their inventory down to 30 days. And if you think about that, you’re 50% covered and you got 90 days worth of commitments and 45 days worth of inventory. So they’re buying on the open market. You know, they have their average costs of 45 days worth of inventory, but then they’ve got to cover the next 90 days or excuse me, the next 45 days.And when they don’t cover that aggressively, maybe they dial it back to 30 days worth of inventory anticipating a dip. Well, the dip doesn’t come, didn’t come, which we were all anticipating, me included. In Q1, we stayed kind of flat at a thousand dollars for six weeks, and it felt like things were going to crack to the downside but the mills were able to hold out. I think they were able to sell the Canadian market. They were able to say, sell to Asia and this kind of standoff, the mills won.So now you got 90 days of commitments, 30 days worth of inventory. You got a lot of ground to make up with your purchases. And I think that’s, what’s happening. That’s what’s happening right now is you’ve gotta cover your commitments. Eventually they’re going to get covered. Eventually they’re going to buy enough wood, cover, get the lumber out the door. They’re going to have made a ton of money on the inventory they had on the ground. They’re not going to make as much money on these open market purchases where they’re scrambling the cover, and those two dynamics, or those two profit margins will average out. And I think ultimately they’ll be okay, but what’s happening right now is there’s commitments that need to be covered. And we’ve all waited too long to get those covered.

Joe: So basically you have the lumberyards and if they don’t deliver the lumber they’ve promised, they’ve defaulted. So to avoid that they have to cover those shorts. Let’s talk about the the mentality coming out of the Great Financial Crisis. I have to imagine that numerous players in the industry got totally wrecked. And I remember for years people talked about, “Oh, housing is never really going to come back the way it did.” And then of course we had the crash last March and a lot of people got deja vu, but then we saw, okay, we got some people started renovating their homes and that caught people by surprise, but people didn’t think that would last. And then, okay, the winter is going to come, but then that didn’t slow it down. So talk to us about the role that essentially diminished expectations, permanent pessimism and fears of the ongoing fears of another shoe dropping, how that contributed to the yards not carrying that much inventory.

Stinson: Yes. So it’s such a great point and I can speak confidently about my market. And I think I can say that we’re more conservative than others because of what we went through 2006, 2007 and 2008. And what we ignored in 2006 and ‘07, and paid the Piper in 2008. And we, we really were one of the sectors that really never — still haven’t — reached and eclipsed our peak, if you just look at housing starts. And it was pretty devastating, as you can imagine, for everyone involved. And so a lot of people got cleaned out. And if you survived and you’re still around today and you survived 12 years ago, it’s because you’re extremely conservative, right? You hold a lot of cash. You don’t put your neck out too much. You’re slow to reinvest. You’re slow to hire. You’re slow to expand. You’re slow to buy more trucks because — what if, right? It’s such a fear. And ultimately you’re also slow to buy a bunch of inventory. You want as little inventory as possible in case the bottom falls out. So that’s very fresh even all this time later in everyone’s mind. And again, the names that are around right now are around because they were able to scrap, scrape and survive being the epicenter of the great financial meltdown. And so there’s just a characteristic of these legacy names and the folks who run them that they’re just conservative. And the same with the home builders. You’re listening to the home builders, they’re paying down debt and they’re not aggressively going after land and they’re playing it safe. And it’s like, what are we doing here?We have this massive housing shortage, but you can just feel how hesitant everyone is to believe it. Me included last March! I was like, depression. This is bad. Stock market sell off. Lumber future sell off. And I mean, I was quoted in the WSJ that April that nobody’s thinking about buying a new home. That’s the last thing on anyone’s mind. And so we all derisked, we sold down our inventories to almost nothing. The sawmills, if they had any extra inventory on the ground which they typically operate with to fill in the gaps and smooth out the supply chain in case there’s a weird production run glitch, they can pull from inventory, fill the car and get a gun. They sold those stacks down to pavement. Lumber dealers went and sold, their inventory down to nothing. Middlemen and liquidity providers — same thing. None of us wanted the risk on. So then we started the rebound and the short of it is prices went from 250 on the future screen to $350 to $450 to $500.And we’re all thinking: ‘Oh, this is the top.’ Like, 500 is historically a great price. And in 2018, we went to $655 and that was the top. So we get the six $650, $655, this is it. There’s no way. And then $700, $800, $900, $1,000 by September. And those last $300 were just backbreaking for the industry. High prices cure high prices. But in our industry, high prices raise concern and people get really scared that it’s just going to crash. So everyone was slow to believe in the recovery. So no one invested in inventories, effectively. The mills didn’t invest in inventories. Lumber dealers didn’t invest in inventories—prices were too high. I’m going to wait for them to come down. This can’t possibly last. So that hesitation to lean in and to put risk on perpetuated the situation that we’re in that has been such an acute run up. We’ll talk about larger structural issues supporting the price of lumber, but what happened and this happening right now, I think, is ultimately from the scars of the great recession and the conservative nature of our industry, not wanting to put risk on via lumber inventory.

Tracy: So what would it take to actually change that conservative mindset? Or maybe another way of putting it is what would it take to make the industry more flexible and better able to respond to change? Is it just a function of trees taking a long time to grow and taking a while to transport, that means you have sort of longer lead times that feeds into that forward planning?

Stinson: I don’t know the answer to that question. I hinted at the larger structural problems. The Canadian forests are where the problems are. The Canadian government a few years ago decided we are logging these too fast and that we’re just not going to have the forest if we keep going at this pace. So they reduced what they call the annual allowable cut—the AAC. Before, they had expanded AAC because there was a bunch of what we call beetle kill trees out there from this Pinewood beetle infestation. Most folks have heard of it, but it was devastating. It was ravaging forests up there. So they opened up the forest for logging to get those trees cut while they’re still harvestable. You can still use them for lumber. You can still find blue-stained lumber in the stores. Some people use that for decorative reasons, but a lot of houses built in the 2010, 2020 have blue-stain studs on them. And those are beetle-killed logs, which is also a thing in the U.S. So they opened up logging to a much faster pace to harvest the trees before they rotted, and then you couldn’t harvest them into lumber and also reducing the fire risk of having dead trees in your forest. Right. And, you know, there’s a long discussion about why is there a Pine Beetle infestation? Why’s it so bad? A lot of that points to the winters not being as cold for as long to kill those beetles off, but ultimately it leaves the forest vulnerable to fire. So they wanted to get in there and cull as much of those as they could. So if you look at lumber prices, they’re pretty flat and you look at the publicly-traded lumber, sawmill, companies— pretty flat pricing, not a lot of dividends. Really low returns over 10 years on just their stock price.

It was not a great business to be in. We were just flooded with lumber partially because we were over producing because we’ve got these beetle kill trees we’ve got to take care of. That changed in 2015 or 16. They reduced the AAC — and that that’s set by the Canadian government, they call it crown land. They own the forest up there. And I’m not a deep expert in these licenses and tenure, but the mills and logging companies are allotted Timberland to harvest. They control basically the pace of what they can harvest. So they just cut what you’re allowed to cut. So the mills, there’s these mills all over in the Bush up in Canada, and if there aren’t enough logs to keep them going, and then lumber prices were low and the returns were low, these mills started getting shut down.And that was mostly in 2019. Lumber prices were very low. Housing market was mediocre, second half of 18and then 19. And it just devastated the industry. Like it was a really sad, like main employers, lumber towns, just devastated. The main source of employment in this tiny town is shuttered. Now, of course, we’re missing that supply. I don’t think all of them would still be here. I think the log supply was going to ultimately shut down several of those mills anyway, but now here we are. Less logs to cut and harvest. Less mills to do it with. And you have an industry— a sawmill industry—that really has had mediocre returns for 10 years. And now here’s their moment to maximize.

Joe: There’s so many different strands to pull on, but let’s keep talking about this, the relationship between the sawmills and the forests. Some reports have said, “So there’s plenty of trees, the real issues is just the sawmill capacity”, as you just described. I’ve seen others say actually there aren’t as many trees as people think because a lot of the trees that are available, they’re in the South, and those trees, aren’t really great for building homes. Maybe they’re like better for cardboard boxes of the e-commerce industry or something like that. So are there a lot of trees available and then also like how do the Trump tariffs play into it?

Stinson: No, there’s not a lot of trees available to build, to build homes as we build them today. The plate material, which is kind of the horizontal laying lumber and the studs in between them behind your dry wall is most likely a Canadian-species piece of wood. And that’s how we build homes. There’s certainly a lot of production in the U.S. and the Pacific Northwest that is interchangeable with Canadian spruce, but they they don’t produce as much as the Canadian lumber mills do. And that is the way we build homes. We don’t build homes with Southern yellow pine from the US South. You could, and I guess you can. But it’s, it’s a different stick. It’s heavy, wet, dense, crooked, twists, a lot of waste on the job site. You can’t store it. So we’d have to change what we do.So, yes, there’s a ton of trees in the U.S. South, but we don’t build houses with trees from the U.S. South. We build houses from trees, from the Pacific Northwest and Canada. Particularly Canada, as we just talked about, they’re getting more and more scarce because they just made the decision and you talk to most Canadians, they don’t disagree with this decision. It’s like, you got to stop logging at this pace, or the forest won’t be here. So it’s not really a point of contention up there. It’s taken as fact. And I’m not gonna argue with them. So I don’t want the forest to go away. And they told me, I thought it was 30 years. It takes 80 years to grow a Canadian lumber tree. Okay. So they, they had a hard decision to make and they made it and we’re all going to have to adjust.

Tracy: So given that long lead in time, I mean, 80 years to grow a tree, is the solution to the squeeze on the demand side, rather than the supply side? Because it feels like you can’t fix the supply issue anytime soon.

Stinson: Yeah. Amen. I’ve been saying that. That’s kind of been my narrative. Once prices went to $700 and they kept going, I was like, something’s wrong here because these mills have never seen $700 in their life. And we still couldn’t find lumber. Why aren’t they producing more? And there used to be an old adage, when I was taught in the lumber industry, the sawmills can always outproduce the market. And they had a bad habit of doing so. So when returns got good, they turned the switch on and they produced a ton of lumber and crushed the price. And I’m like, I kept waiting, kept looking around, like, why aren’t they doing this? Where’s this hidden inventory I keep hearing about? $750, $800. Why aren’t they selling futures? They’re not showing up as hedgers in the CFTC report. $900, $950. I’m like something’s wrong. Clearly the supply side can’t fix this. Clearly. They just can’t. It would be criminal of them, I mean, like maybe fiduciary wise, if they were like secretly not producing as much as they could when lumber hits seven, eight, nine. Folks were like oh they’re hiding it and there’s more that we don’t know about, but they’re publicly traded. They can’t do that. And it would be a complete shift and from all their past behaviors. So it is not a supply side fix, not in the near-term. So yeah it’s a demand side fix and it’s high prices cure high prices. And we have not found that equilibrium or that tipping point where we start slowing demand because of high lumber prices and it’s astonishing. And it makes you think maybe lumber should have been more expensive for a lot longer.

Joe: I’m glad you mentioned the futures market cause we haven’t really gotten into that. But it’s something, you know, we had this long streak of like limit-up, limit-up every day. Talk to us a little bit about the relationship between the futures market and the cash market and how you use both and how tightly aligned they are. Give us a little overview of the futures market.

Stinson: So I’m like full disclosure, highly dependent and a huge user of lumber futures. Okay. That’s how I run my business and I don’t care if they go up or down, I care that it’s easy to execute and get in and out. So I care about liquidity, right? The lumber future is one rail car of lumber priced, Prince George, British Columbia in U.S. dollars. So the number you see on the screen is per thousand board foot, which is a volume measurement. And the two by four eight, I think there’s like six board feet and a two by four, eight stick. You can build like four to five houses out of one futures contract worth of product. It’s a large volume, but that’s how our industry trades lumber by rail car, especially out of the Pacific Northwest and Canada.Being a cash and futures trader, I can tell you that it’s highly effective, highly correlated, but convergence, which would be the cash or spot price converging with the futures price at expiration. And it happens every contract — it’s a physically delivered contract so it has to happen. And the correlations are really high. The problem, when you look at it, people see the volume and/or the open interest. So when we were going lock limit-up on this run, there’d be 150 trades on the screen on the front month. And people would point that out. And I would say that’s about 130 more trades than what was happening in the cash markets. The cash markets, there was no market. There was no market for wood. There was no wood to be found. So the only alternative was to buy lumber futures for your purchase. Because again, these folks are making purchasing decisions today for wood they’re going to need eight to 10 weeks out. So buying a May futures contract in March, but that aligns with what they would be doing in the cash markets.So the cash markets and the futures markets really mirror each other really well in that they’re highly illiquid, highly volatile. One of my observations has been the consolidation of our industry from sawmills to lumber dealers. Not so much home builders because they’re not buying railcars with lumber from sawmills. That’s not how they operate. So lumber dealers and sawmills make the market. They’re the ones moving rail cars all across the country. They’ve been consolidating since the great recession to the point where there’s basically four or five major Canadian producers, and there’s basically three or four, maybe five major U.S. lumber dealers. And so that’s five asks and five bids, and they always get these massive standoffs. And you can imagine if your bid/ask is hundreds of dollars apart, but when someone blinks, the whole market makes this hundred dollar move because you heard this rumor that’s so-and-so made a block purchase and now the mills are off the market and there’s no more open market wood to buy.And that’s because there’s not a lot of bids and asks in the cash markets and the futures markets kind of represent the same thing. Fhe folks who taught me lumber cash markets, when they started, there was a bunch of independent mom and pop lumber yards. And there’s a bunch of family-owned legacy sawmills dotted all around Canada and the Pacific Northwest. So you could information arbitrage just by working the phones and find a sawmill that that is behind the market pricing, find a buyer that didn’t understand the market has moved because you’re just making 30 calls to the buy-side, 30 calls to the sell-side of every single day, trying to find the market. So you could just do this information arbitrage and you just make a killing and you’re back to backing most of it. So you’re not even taking the price right?Well, now there’s five and there is no information arbitrage. You can’t find an inefficiency in pricing because there’s only five of them. And same on the buy-side. You can’t find anyone sleeping. They all know exactly where they’re at. They all know exactly where the mills stand. So there’s no way to find a busy lumberyard owner who’s worried about a truck that’s late, you know, not paying attention to lumber prices and you can goose him for 10 or 20 bucks per thousand cause they’re not paying attention. That doesn’t happen anymore. We have professional, extremely sophisticated and very smart centralized buying floors at these dealers that buy at their corporate headquarters for all their locations across the country. And they’re extremely smart and savvy and crafty. Like these guys are very, very good at what they do. So it’s hard to understand what decisions they’re going to make because they represent hundreds of yards, where 20 years ago, hundreds of yards represented hundreds of yards so there’s just all sorts of different inefficiencies.So that dynamic— that consolidation dynamic has made it harder to trade lumber because there’s just these massive moves — and it makes futures a mirror of what’s happening in the cash markets. I’ll often say, if you think futures is crazy right now, you should see what’s happening in cash markets. There have been days during this run when you call the sawmill, they don’t answer the phone. It’s like, yeah, we’ve got nothing to sell. There’s nothing for sale. So what are you going to do? You got to buy lumber futures to at least get something on, so you can get a delivery in June. It’ll ship to you in mid-May, it’ll take a few weeks to get to you. And so that’s why we see these squeezes and these big limit moves at the open of the market because they called the sawmills five minutes before and they’re what we call off the market. They’re not even showing any inventory to sell.

Tracy: This is a really dumb question but what’s the normal state of the lumber futures curve? Is it contango or backwardation?

Stinson: It’s typically in contango. Yes. I did a study when I was launching the busines, over 20 years there’s typically a $5 carry, a $5 contango in the market on average. And the highest backwardation we’d ever seen was in 2018, I think it was $40, something like that. And that was crazy, crazy at the time. And the biggest carry we’ve seen was later the same year, it was a $45 carry, or contango where the front month was a $45 discount to the next contract 60 days out. It only takes $12 per thousand to store it. And the market was paying you $45 to store it in the second half of ‘18. And now we have $130 invert. Last contract, we went up over $200. The biggest one was in September when this whole thing got kicked off, we had a $300 invert. So it is way out of whack, but representative of the cash market.

Joe: So you talk about how it’s hard to get an informational edge in the market. You talk about how sophisticated the sort of big players are. So I have two related questions. One, what is your edge? I mean, essentially where does your — alpha is the term — where does your premium come from in such an efficient market? And also what is the role now of relationships in the industry that you as a trader might have, your relationship to the sawmills, to the lumberyards, how important is that to the current structure of the market.

Stinson: So for me, I talk about being a liquidity provider. If you can manage your risk and provide the liquidity in an illiquid market, there’s a lot of reward there. And if you can reduce the risk compared to the reward, you can do pretty well. I just take on a lot of physical lumber risk, where I’m buying rail cars of lumber, I get them unloaded, I put them on the ground in different markets across the country, waiting for someone to need something right away because their lumber budget was off on their inventory. And I’ll use futures to manage the downside risk. So when futures go up, I have massive margin calls, but the way it works, hopefully, is your cash value is moving up faster and further than your futures losses. And you can imagine if there’s a scramble for wood and the mills will get you wood in eight weeks and I can get you would tomorrow, folks pay a premium for that — to get it tomorrow and get it in.I also sell in truckload quantities. So I’ll charge a higher price, but they’re not committing to a carload. There’s four trucks for every one carload. So they can swallow one higher priced truck, get it in and get it out, and kind of go hand-to-mouth in that fashion. So I’ll be able to provide just-in-time inventory at a higher price, but it may not move their average costs that much because it’s one truck versus a car load. That’s something I learned from grain traders. I basically use a grain elevator business model with risk management, basis, seasonality. It’s pretty basic in ag. Like you won’t find folks who quote you flat-price corn. They’re going to tell you it’s 20 over De Moines or something, or 20 over Chicago futures. Because everyone’s hedged because they’re not crazy. And in lumber it’s just different. Folks use futures as a physical proxy. They use features to speculate, even if they’re in the physical marketplace. So that causes a lot of inefficiencies in futures, which allow me to arbitrage the cash value versus a hedge I can get off. And like those, those windows will open and close and it works both ways. So we had this massive selloff yesterday in futures and that was beautiful for me because nothing changed in the cash markets at all. In fact, cash went up $80 and futures went down $45 ( $48 from the day before). And that was a weird speculative move that did not match fundamentals. And I was able to arbitrage that and make good money. And you know, it goes against you too. Sometimes it’ll make a speculative, non-fundamental move to the upside and I’m kind of locked out of the market. I could buy more. Typically that would be a recipe. Futures are up and the cash market didn’t go up with it, then cash is cheap and futures is expensive. I’ll sell the expensive thing and buy the cheap thing.But, it doesn’t always work that way. So often I just kind of get locked out. I can’t price competitively because I have hedges that are working against me. But that’s the life of a hedger. And I just make modest, at least consistent margins in up and down markets. I don’t really care if the market goes up or down. I just care that there are spikes in demand and scarcity in my markets that I can fill, get my hedges off and then wait for another opportunity to restock. So you asked where’s the edge now, and it’s not making 60 phone calls a day. It’s being big. It’s having access to the mills. It’s having access to that information at the mill level. And it’s being a big customer that an already big producer wants to pay attention to.You have to be big. The producers won’t pay attention to you. You’re not worth their time and it’s not personal, but they got to move a bunch of wood. They’re a massive company and they got to face another massive company. So if you’re big and you move a lot of wood, that’s the edge. And if you are small, you got to go through a buying group or buy on the secondary market from folks like me. So that now is the edge. And I think that’s what you’re seeing in consolidation. One of the motivations was for the buy-side.But another factor of consolidating another benefit is I think you’re going to see pricing power facing the home builders. That power dynamic is going to change because all of a sudden these vendors are getting big enough to say, we’re not going to do 90 day pricing. Because the homebuilder used to say: “Okay, you won’t? This other lumberyard they’ll do it.” And they would do it. And they wouldn’t care if they lost money, they just got a huge homebuilder as a customer. Now the homebuilder’s going to start seeing there’s less options. And if they’re not going to give me 90 day pricing, there might not be another lumberyard to give me 90 day, because now those lumberyards own each other. And there’s going to be a power shift in how that risk is managed. And just today, we saw some comments from home builders, via Allie Wolf on Twitter. She said, they’re no longer locking in prices when there’s just dirt. They’re offering homes for sale once they got the lumber literally on site. So they know what the cost is, and then they can mark it up. That used to not be the case. Home builders had a pretty good run where they did not have price risk. And I think I, you know, these contracts and how they’re priced, I don’t have visibility to them and they’re proprietary, but I think we’re seeing a risk transfer back to the home builders, because they’re losing supplier options. So the size now is where the edge is.

Tracy: I want to ask you about the home builder response, but before I do, you mentioned this idea of moving lumber just then. And I imagine that when you’re dealing with big amounts of a physical commodity, whether it’s logs or sheets of wood or whatever, transport costs can be pretty high. And one of my pet themes for the year is this idea that economics doesn’t actually do a great job of appreciating transport costs and taking into account shocks to those. And we’ve seen a lot of shocks in transportation this year. So I’m just wondering how that has affected the business, If at all? Are you seeing gridlock or a shortage of truckers, things like that?

Stinson: There was a big pinch in truck drivers, truck availability, and it made a lot of headlines, I think it was in 2018, 19, like with the signing bonuses. And they’re trying to recruit long-haul truck drivers because a lot of lumber is moved, like I move all of my lumber from my storage facility to my customer via a flatbed that I go find on the open market, the trucking market on the quote board, the load boards they have online and tell them what I’m willing to pay. For lumber it delays shipment. Prices have gone up, I’d say 20% from two years ago. From typical lanes that I would sell consistently prices are now 20% higher than they were a year ago, pre-Covid. But the liquidity of trucks has vastly improved. I think that push for hiring drivers and investing in more trucks — you’re able to get trucks more easily than you were a year and a half ago, two years ago.Now that’s me and my little niche. And I’m sure there’s there’s data that might point otherwise. But in my experience, there’s more trucks to move loads. I get all my loads moved in one or two, three days. It’s pretty rare that I get stuck a week out, but that was happening all the time. Now I’m remembering in 2018 massive logistics issues with trucking. The other element for lumber is, and it’s the biggest transportation cost, is the rail freight from the Pacific Northwest to Atlanta. So the futures contract is priced FOB Canada, British Columbia, $120 per thousand board fee gets it to Atlanta, $120 to $130. If you’re in Atlanta and you want to do the math, you’re not paying the futures price, you’re paying the futures price plus $120 to get it there. Plus the handling to get it undone. And then if it’s got to move from distribution facility to a store, that’s another 20 to 30 bucks per thousand board feet.And what we’ve experienced in lumber is the CN and the CP rail lines obviously dominate rail origination out of Canada. And the CN is the biggest mover of lumber out of Canada and the sawmills or the seller controls freight. So I’m always buying delivered Atlanta, delivered Dallas, delivered Baltimore. That’s my price. I don’t face the rail line. I don’t pay them. I don’t book rail cars. I pay delivered price. And the sawmills have contracts with the rail lines none of us are privy to, to have a certain amount of cars, each week, each month, depending on what they think their needs will be, because they don’t want to have more cars contracted than they need. So you can imagine sometimes they underbudget, how many rail cars they need and we’ll get bottlenecked. And there’s not enough rail cars moving across the country because, I’m making this up, but because two months ago, they misforecasted how many real cars they’re going to need in June.

Joe: So one thing that strikes me is there’s only one national price, as you describe it. When I think about the oil market, obviously we talk about like West Texas Intermediate, but I can go on the Bloomberg, and there’s there’s dozens. I don’t know, like dozens of actual oil prices everywhere around the country. And they tend to correlate, but they’re all slightly different because it’s slightly grade or it’s a different logistical network to get there. But, as you describe it, there’s one national price of lumber. And then you add on a cost of transportation, depending on how far it has to go, whether it’s to Dallas or Baltimore and Atlanta or whatever. So how does that change the lumber trading game? The singularity of there just being the one price?

Stinson: To me it makes it easier, there’s less arbitrage opportunities because I know in grains and in energy, when I was around those traders local basis, that was an information arbitrage. And you could point, the market will get so efficient that you could rail it to Kansas city and then truck grain to Tulsa instead of railing it to Tulsa, because the rail to Tulsa, there’s a spike in real freight, right? We don’t experience that in lumber because the sawmills control the freight, which for me is kind of a nice perk that I don’t have to deal with that. And I don’t have to have a logistics person manage all those things. But it’s interesting because if Phoenix is blowing up the sawmills and buying a bunch of lumber, they’re driving up that FOB, Prince George price. So if you’re in Dallas or Atlanta, you’re kind of at the mercy of how busy is it in Phoenix because they’re bumping up everyone else’s price.And that dynamic is unique, I think, to lumber. And that’s because the shipper controls freight. And that’s also because the shipper controls freight, they are the importer of record, so they’re actually paying the tariff instead of the buy-side, which I think is unique for imports. You know, it’s hard for me. I don’t have a ton of experience in other commodities, but in a way I think it makes it more efficient. And I know for me running my business, it really simplifies things. The other side of that sword is some of those situations where I was talking about you cannot bid up freight to get the product because you need it so badly. Like it is very finite. Like there is no price you can pay because you don’t control the railcars. You can’t tell the CN, I will pay two, three, four X, whatever it is, cause I got to have the product.So it causes major issues in peak lumber season, shipping seasons. And if you look at lumber shipment seasonality, it’s big in January and February, and then there’s another bulge in the fall. And if there’s a shortage of rail cars, there is no open market wholesaler of rail cars that you can go to to get your lumber from A to B. You’re at the mercy of the sawmill’s contract with the railcars. So that will drive up price on on the futures contract. But more than anything, it drives up prices for low local basis for someone like me, who has it. So lumberyards have learned this over the years and they try to anticipate and buy before there’s a rail shortage and load up on inventory ahead of time. So they don’t get starved out from lack of contracted rail supply. And I think that was, from the traders that have been doing this longer than me, that transition happened about 20 years ago. And I imagine it’s because the rail lines just wanted to face a bigger player who they could just do volumes with versus onesy twosies little lumber yards.

Tracy:So I have a really basic question, but who is making money from the price rise in lumber? Cause I get the sense from this conversation that even though we’ve had this big surge, it’s sort of made things difficult for everyone and there’s no one in the lumber ecosystem who’s making out like a bandit at this moment in time.

Stinson: Yeah, that is very true. The sawmills are doing great. I mean, unbelievably great. And it’s long overdue and I’m happy for ‘em. I think we were going to grind higher to a price like this eventually, but COVID, you know, did its thing. And, and we did it all at once. And the reason I think that was because that’s what the Canadian experts that I work with and the folks who cover that sector have been telling me for a while. It’s coming, it’s coming, we’re reducing the cut. And eventually prices are going to be astronomically high. It just happened very quickly. And it also happened after it a sell-off to $250 low. And now we’re at $1,300, basically 12 months later. So the mills for sure, easy answer, after that, because the rise has been so sharp, it’s going to compress margins for lumber dealers and home builders that kind of have that forward price lock dynamic, but prices have been this high for six plus months.We know then that these prices have been able to been marked up and sold over the past couple of quarters. So higher prices generally are more profitable and we’d love it as an industry, how we got there is not ideal, but if we stay here, everyone’s going to make a lot more money. Everybody just because a 25% gross margin for a lumber dealer, according to publicly-traded financials on $1,300 lumbers, is a lot better than $600 lumber, right? So if we’re higher for longer, everyone’s going to do very well. This transition into it is fairly painful, but I am of the belief that the floor for this market, because the market’s going to stay volatile. It hasn’t been volatile. If it only goes up, that’s not volatility. That’s just one direction you needed to go up and down. Eventually folks will get covered and they’ll get the lumber they need and we’ll roll over.But if they’ve been selling forward $900, $1,000, $1,100, $1,200 lumber, $900 purchases are extremely profitable for them. And this idea of am I going to get caught in a short squeeze, again, shame on me? So I think you’re going to see bigger lumber purchases on these dips so they can be well supplied and have the product because that’s ultimately what’s driving this behavior. It’s not the price, it’s having the product on hand to fulfill your commitment to the builder. So higher for longer means these prices get normalized. A gross margin on a higher price is ideal for everybody involved. The transition to get there obviously is painful, but I think at the end of the day for this housing cycle, it’s a great thing for the industry.

Joe: Stinson. This was fantastic. I loved learning about this totally new market structure and hearing your perspective on it really appreciate you coming on Odd Lots.

Stinson: Hey, I appreciate it. I hope folks learn something and happy to contribute.

Tracy: Thanks so much!

Joe: Yeah, I think they definitely will. Thank you so much,

Joe: Tracy. Remember a recent episode with Sam Bankman-Fried, the crypto guy?

Tracy:Yeah, sure.

Joe: I’ve kind of been thinking about that a lot actually with the lumber conversation and his whole story is about [Tracy laughs] no, I’m serious. Like his whole story is okay, you bought this and then you sold it, transferred it to someone in Japan and stuff like that. I feel like all the interesting markets essentially involve — they involve legwork. They involve putting in the work to well, this sells for this in this place, this sells for this in another place and you have a relationship with this and you get to some size, you can do it. And it feels like even though, we kind of joked in the beginning, lumber is kind of a meme stock or it’s kind of a crypto, there kind of are similarities in market structure I feel like. Is that contrived?

Tracy: No. I mean, I think it makes sense that markets with arbitrage opportunities are more interesting and certainly they’re going to attract people who are quite keen on making money, but again, like making that money does involve having some sort of edge or informational advantage or some sort of ability for instance, to arbitrage the price of Bitcoin in South Korea versus somewhere else in the world. So there is that.The other thing that this reminded me of is our conversations around Covid, and just this idea that the virus sort of accelerated all these previous trends that were already underway. And if you think about lumber, Stinson was describing the supply in Canada, uh, the Pine Beetle infestation, and the fact that Canada was becoming more conservative about how much wood it was actually chopping down, that seems to have gotten worse over the past year or so. And so it feels like a lot of this was on its way, but because of Covid, the impact has just sort of multiplied.

Joe: Yeah. And that’s the other thing. The population of the United States has grown a lot because that’s what populations do. The home buying population has grown. And like people have like talked for a long time about how the U.S. was just like under-housed and the scars of 2006, 2007, 2008, continuing to linger over the industry. So it’s kind of like, we’re getting this shock therapy for the housing market overall, where we knew we’ve been underhoused for years, and suddenly we’re trying to make up for that underhousing in the span of a year or two. And so you get these super painful periods like we’re seeing.

Tracy: Hmm. Yeah. It also makes you wonder if we’re going to flip from being super conservative in the aftermath of the 2008 financial crisis to everyone being scarred by the supply issues in 2020, 2021. Like for the next decade, is lumber just going to be this huge market and everyone’s ramping up production?

Joe: Well, that’s what he kind of was hinting at at the end, right? No one wants to get short anymore. Like if you basically, if you think of all the lumberyards as having just got brutalized in the short squeeze, and now that becomes the new thing that scars them. Then maybe you start to get this other correction. You actually start to ger more building and more investment and more capacity that would ultimately be a good for the economy rather than shrinking.

Tracy: Yeah. More houses at least. Okay. Should we leave it there? Okay. This has been another episode of the Odd Lots podcast. I’m Tracy Alloway. You can follow me on Twitter at Tracy Alloway

Joe: And I’m Joe Weisenthal. You can follow me on Twitter at the stalwart. Be sure to follow our guest on Twitter. He is under the handle @lumbertrading. You really want to check out all of lumber, Twitter. It’s a really good spot follow our, it really is.