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AgDairy Market Update

RSS By: Robin Schmahl, Dairy Today

Robin Schmahl is a commodity broker and owner of AgDairy LLC, a full-service commodity brokerage firm located in Elkhart Lake, Wis. He provides dairy market insight.

Where Does the Milk Come From?

Mar 05, 2012

Climbing feed prices and falling milk prices spell trouble for farm profitability. Meanwhile, a new report confirms the trend toward ever-larger dairies.

Climbing feed prices and falling milk prices spell trouble for farm profitability. USDA estimates there will be 94.0 million acres of corn planted this year, making the highest amount of corn acres in 68 years.
 
One would have thought futures prices would have declined with that estimate, but that was not the case. Corn futures remained in a somewhat sideways trading range with old-crop corn pushing through the upper end of the range. Cash prices have been strong, with the basis continuing to narrow. There are 74.0 million acres of soybeans expected to be planted, down 1 million acres from last year.
 
USDA’s latest “Agricultural Prices” report showed corn price increased 9 cents from January to $6.16 per bu. Soybean price increased 40 cents per bu. to $12.30. The alfalfa hay price was $198.00 per ton, up $6.00 from January. Interestingly enough, the corn price is higher than it was a year ago while soybean and alfalfa prices are lower.
 
As a result of higher February grain and hay prices and a lower All-Milk price, the milk/feed ratio fell to 1.58 from 1.72 in January, and compares to 2.01 from a year earlier. This is the lowest milk/feed ratio since July 2009. There have been 11 consecutive months with the milk/feed ratio below 2.0. The current trend is for further narrowing of the ratio as milk production continues to increase and spring flush approaches.
 
Profitability for dairy producers may be limited or non-existent for a period of time. It does not appear any weather premium has been put into grain prices yet. Soybeans are attempting to buy acres with futures trending steadily higher while corn futures are sideways. Prices are moving in anticipation of the “Prospective Plantings” and “Quarterly Grain Stocks” reports that will be released on March 30. Traders will then focus on the planting and growing season, with a weather premium likely to be added to futures prices.
 
Traders do not generally do not put a weather premium into Class III futures. Milk futures usually post prices according to seasonality. Milk is a commodity produced every day and is affected by supply/demand. Weather can have an impact, but that impact has been reduced over the years as better technology and management practices are implemented on farms, keeping cows comfortable in hot weather or dryer in wet weather.
 
Milk receipts continue to increase as winter weather remains mild. So, where is all of the milk coming from?
 
The National Agricultural Statistics Service (NASS) released a report entitled, “Farms, Land in Farms, and Livestock Operations for 2011.” The report indicated what we already knew, and that is that farms are getting larger. In 2011, there were 51,481 dairy operations licensed to sell milk. The report indicates 50.3% of the nation’s milk supply comes from dairy operations consisting of 1,000 cows or more. Of that 50.3%, 34.6% of the milk comes from farms containing over 2,000 head. In essence, 6% of the nation’s dairy farms produce more than 60% of the milk.
 
Eleven counties marketed 25% of the nation’s milk. Seven of these eleven were in California. In order, these counties were: Tulare, Calif.; Merced, Calif.; Kings, Calif.; Stanislaus, Calif.; Kern, Calif.; Maricopa, Ariz.; Fresno, Calif.; Yakima, Wash.; San Joaquin, Calif.; Lancaster, Pa.; and Chaves, N.M. It is clear the trend is for larger dairy farms. This is a trend that is not going to change anytime soon, if ever.
 
My hedging recommendation is to cover more milk production by purchasing a $15.00 put option in April and selling two $15.75 call options for no cost, or even, money. It is unlikely milk prices will jump very much through spring flush. This provides a floor at $15.00 for one contract of milk. If the price was to increase above $15.75, you would be hedged at that price for two contracts of milk. This can be done in either 100,000- or 200,000-pound increments. In May, purchase a $15.00 put option and sell two $16.00 call options for even money. For June, purchase a $15.25 put option and sell two $16.75 call options for even money. This strategy is called a ratio spread. Do not go further than June with this strategy for now. If you followed my previous recommendations, you should already have 50% of your milk hedged. This is added coverage to minimize further losses.
 
Upcoming reports:
- Fonterra auction on March 6
- World Agricultural Supply and Demand report on March 9
- Fluid milk sales statistics on March 9
- California Class I price on March 9
- February Milk Production report on March 19

Robin Schmahl is a commodity broker and owner of AgDairy LLC, a full-service commodity brokerage firm located in Elkhart Lake, Wisconsin. He can be reached at 877-256-3253 or through their website at www.agdairy.com.
 
The thoughts expressed and the data from which they are drawn are believed to be reliable but cannot be guaranteed. Any opinions expressed are subject to change without notice. There is risk of loss in trading and my not be suitable for everyone. Those acting on this information are responsible for their own actions.
 
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