Dairy Market Update, November 2012
Dairy market fundamentals indicate dairy product and milk prices should strengthen as the national dairy herd and milk production continue to decline.
Prices: On Nov. 29, 2012, spot prices for cheddar cheese blocks and barrels at the Chicago Mercantile Exchange (CME) were $1.8250/pound and $1.7400/pound, respectively. CME block and barrel cheese prices are down since late October (10/25/12), -$0.2650/pound for blocks and -$0.3200/pound for barrels. During the same time period, butter is down (-$0.2775/pound) to $1.6125/pound. The CME Class III futures averages (11/29/12) for 2012 were down (-$0.13/cwt) to $17.48/cwt, the next 12 months was down (-$0.29/cwt) to $19.10/cwt, and 2013 was down (-$0.12/cwt) to $18.57/cwt. These Class III futures averages correspond to potential USDA Michigan mailbox prices of $18.47/cwt (2012), $20.13/cwt (next 12-months), and $19.56/cwt (2013). Figure 1 shows the current (11/29/12) CME Class III futures averages for 2012, the next 12 months, and 2013 are at the 66, 75 and 87 percentiles, respectively.
Figure 1: Cumulative probability graph of USDA announced Class III prices (2007-present) and current CME Class III futures averages
Supply: In Oct. 2012, U.S. milk production fell 0.1 percent as compared with Oct. 2011. This marked the fifth consecutive month milk production grew below trend (+1.5 percent, 2007-2011). Milk production the first four months (January-April) of 2012 grew by +3.9 percent as compared with 2011, but has slowed the past six months (May-October) growing at only +0.5 percent. October production in Michigan increased 2.7 percent compared with October 2011. The size of the U.S. dairy herd continues to shrink as dairy cow numbers declined by 9,000 head September to October and is down 84,000 head since April. The decline in cow numbers is particularly pronounced in the major western dairy states (Ariz., Calif., N.M., Wash. and ID) with aggregate dairy cow numbers in these states down 27,000 head compared with Oct. 2011. Nationally cow numbers are down by 25,000 head compared with Oct. 2011; the second consecutive month of national decline as compared with last year. Dairy cow slaughter numbers in 2011 ran well ahead of 2010, up 106,600 head, and are up even more in 2012 through October at +214,900 head. October set an all-time monthly record at 285,400 head. Average cull cow prices have softened a bit, but remain historically high at $77.50/cwt (+16.1percent compared with Oct. 2011). Milk production per cow in 2011 was below trend (+1.4 percent, 2007-2011) increase at +0.9 percent. Milk per cow started strong in 2012 up an average of +3 percent the first four months (January-April) but slowed dramatically the past five months (June-October) at only +0.04 percent as a combination of hot summer weather, high feed prices and lower quality forages took their toll. The USDA reports an increase in dairy feed prices in October of +9.3 percent compared with Oct. 2011. Over the past month corn prices have strengthened while soybean meal prices have moderated a bit, but both remain significantly high and problematic for most dairy producers. October’s milk:feed ratio was only 1.68, but was at its highest since January.
Demand: Total commercial disappearance of dairy products for 2011 finished the year right at trend increase (+1.5 percent, 2007-2011). So far (January-September) 2012 is off to a better start with total commercial disappearance up 2.1 percent. Total commercial disappearance set all-time monthly records January-March and May-Aug; however, was down in April (-3.3 percent) and September (-2.2 percent). The January through September disappearance of individual dairy product categories was: American cheese, +1.9percent; other cheese, +2.2percent; nonfat dry milk, +27.7percent; butter, +3.6percent and fluid milk, -1.5 percent.
U.S. dairy trade has shown trade surpluses for 32 consecutive months. For September, U.S. dairy exports were valued at $400.5 million, down 7.5 percent from August and down 4.4 percent from Sept. 2011. September marked the nineteenth consecutive month exports exceeded $400 million and the thirtieth consecutive month exports equaled 12-15 percent of total U.S. milk solids production. However, September exports were the lowest in eighteen months. September exports equaled 13.1 percent of total U.S. milk solids production while January through September equaled 13.6 percent (as compared to 13.1 percent Jan. through Sept. 2011). So far in CY-2012 (January through September) U.S. dairy exports accounted for 46 percent of nonfat dry milk/skim milk powder produced in the U.S., 5.5 percent of cheese, 5.7 percent of butter; 48 percent of dry whey and 66 percent of lactose.
Dairy Product Inventories: The latest USDA Cold Storage Report showed inventory decreases in October for American cheese (-6.1 percent, 581.7 million pounds) and total cheese (-6.2 percent, 954 million pounds) as compared with Oct. 2011. October marked the second consecutive month total cheese inventory fell below one billion pounds. October butter inventory was 10.9 percent above Oct. 2011 at 145 million pounds, marking the fifteenth consecutive month butter inventory was above the same month last year.
Outlook: Dairy fundamentals continue to show a great deal of strength as: 1) milk per cow has averaged only 0.04 percent increase since June and dairy cow numbers continue to decline, down 84,000 since April; 2) dairy product inventories continue to drop (largest September to October decline in American cheese since 2006, total cheese since 2000, and butter since pre-1995) and 3) dairy cow cull rates are at historical highs as October set an all-time record for the past decade and was +42,600 head as compared with Oct. 2011. Even though cheese and butter prices have slipped they remain strong enough to produce $18-$20 mailbox prices (MI). Most analysts remain bullish on future milk prices with some even predicting a “price explosion” the second quarter of 2013. They may be right, but be careful what you wish for!
The highest cull rates are in the western dairy states with cow numbers in Ariz., Calif., N.M., Wash. and ID down 27,000 head compared with last October. Typically those states run 30,000 to 50,000 head above last year on a regular basis. Industry reports indicate very difficult times have hit the California dairy industry. A major dairy accounting firm in California reports that “…10 percent of their firm’s clients sold out in the past year or two, while another 20 percent-30 percent have filed for bankruptcy.” And a recent story in the San Francisco Chronicle reported that more than 100 California dairies are facing bankruptcy, foreclosure, or sale by year’s end.
USDA measured feed prices were higher in October than last year (+9.3 as compared to Oct. 2011). On the CME feed prices are mixed over the past month with corn up and soy down, but, along with very high hay prices, total feed costs remain problematic for most producers. Forage prices are at historical highs as heat, drought, and reduced hay acreage played havoc with hay and corn silage production. A recent USDA report showed nationwide alfalfa/alfalfa mixed hay production down 15 percent (Michigan was down 17.5 percent); the lowest production since 1953. Much of this decline is due to planting decisions and is unlikely to change the hay outlook very soon. In some areas of Michigan hay is approaching $400/ton and corn silage is near $80/ton. Forage prices in many areas of the country will match or exceed these levels. Feed prices, quality and availability; along with continued high cull prices and cull rates, should keep cow numbers, milk per cow and total milk output below trend well into 2013 and support strong milk prices.
The consumer confidence index rose to 73.7 in November up from 61.3 in August but remains short of the 90 level which is indicative of a healthy economy. Total commercial disappearance figures for January-September are above trend (+1.8 percent) at +2.1 percent and set all-time monthly records for January-March and May-August. American cheese and total cheese inventories are both well below last year (-6.1 percent and -6.2 percent, respectively) and butter inventory dropped dramatically in September and is now only 10.9 percent above last year. This is a huge improvement from April when it was 79.3 percent ahead of 2011. The all-important fall holiday dairy product sales season will end very soon. This year Thanksgiving fell on the earliest possible date, therefore, we may see an extended dairy product buying season that usually lasts until mid-December. Then as we enter the New Year the industry usually enjoys strong dairy product sales in January for the Super Bowl. Hopefully higher consumer confidence will translate into strong domestic sales this year. If the industry experiences the predicted “price explosion,” hopefully it will be short-lived and not be detrimental to domestic and international dairy product demand.
I expect the block/barrel average cheese price to strengthen in early December to perhaps $1.90 then fall back into the $1.70’s until Super Bowl buying picks up in mid-January. I expect butter prices to remain in the $1.60’s with some opportunities for strengthening in early December. The Super Bowl seasons usually sees a dramatic increase in Class II product sales which are high in fat, therefore, butter prices may top $1.80 again by mid-January. In the longer term look for 2013 milk prices to be very close to the high end of the current USDA forecast (Class III, $18.75; Class IV, $17.90, and All Milk, $20).
Plenty of dairy replacements remain available to grow the national dairy herd if producers decide to do so. Dairy cattle prices are mixed. Some local Michigan dairy cow sales indicate milking cow prices are softening, but other areas of the U.S. show strengthening prices. With the potential for profitable margins, look for some dairy producers to seek to increase production through herd expansion. However, high cull prices and high feed prices should be able to moderate that strategy in the overall industry. Total U.S. milk production should continue to grow well below trend levels into mid-2013.
Overall the U.S. dairy export market remains strong at +14.2 percent versus 2011. Adequate international dairy product demand remains to keep our export market strong; it just remains to be seen how much foreign buyers will purchase at higher U.S. prices. September’s numbers showed they will back off when cheese and butter prices rise to $2/pound or higher; however, current U.S. cheese and butter prices are dropping closer to world prices which should help sales. Oceania’s 2012-2013 production season is past peak with New Zealand forecasting a four to five percent gain in milk output and Australia up two percent. Oceania reports stocks of manufactured dairy products are “not readily available.” EU milk production is “declining seasonally” and “stock levels are often not at desired levels for buyer interest.” There is concern that the global economy is slowing. For example, sales by Caterpillar, which are a good indicator of economic growth, have slowed to the point the company has idled several plants. Thus, a cloud continues to hang over the export market as economic factors across the globe could trigger another worldwide recession. To maintain strong domestic milk prices it is critical the U.S. maintains high export volumes. Long term outlook for the export market is very bullish, but that doesn’t preclude the potential for short term problems. The U.S Dairy Export Council continues to do an excellent job developing foreign markets for U.S. dairy products and helping foreign customers appreciate U.S. dairy products are among the safest, highest in quality, and most consistent; all of which bodes well for the continued development of the U.S. dairy product export market.
Producers should sharpen their pencils, calculate their latest cost of production and seriously consider marketing some milk and pricing some feed. The market consistently shows it is impossible to sustain Class III prices in the +$20 range for any length of time. So, don’t wait hoping for consistent +$20 Class III prices. Also, take advantage of the current break in soybean meal prices. Class III prices should strengthen as we enter the New Year and we may even see the “price explosion” predicted by some. Past history has always shown that selling milk into a strengthening market is a wise strategy. Remember the three psychological stages of marketing: Greed, Hope and Fear. Don’t allow the “greed” stage to prevent you from forward pricing some milk and feed if it is profitable. Despite our relatively strong market several economic factors, both here and abroad, could have a negative impact on dairy consumption and prices. Remember: marketing is first about price risk management and secondarily about profit enhancement. Work at increasing your overall average milk price rather than trying to hit the market high. A narrated PowerPoint based on this report is available online.