The present outlook for milk prices does not look very good according to Class III futures. Futures contracts are carrying a discount to the underlying cash on the idea that cheese and butter prices will not hold at current levels.
Two months ago, block cheese was around $1.70 with barrels at $1.65. Cash prices are near those price levels again. However, Class III futures in some contracts for 2009 were $2.50 higher two months ago than where they are today. This is quite a change in price outlook and is reflecting the present state of the economy and the possible affect it could have on dairy product demand. The futures market has moved from carrying a premium to holding a discount to the underlying cash prices.
The market is reflecting the idea that milk production will remain strong as a result of falling grain prices. This should ensure full feed rations for optimum milk production. Earlier this year, many believed culling would increase significantly and changes would be made in rations resulting in lower production. Culling has been higher than a year ago in every month this year except in March with some of this higher culling due to another round of the CWT Herd Reduction program taking place this summer. However, milk prices have continued to fall since this program was announced, giving the impression that it was not enough to compensate for the slowing demand.
The CWT Export Assistance program has been very active with butter obligations for 2008 totaling 40.5 million lbs. and cheese totaling 3.2 million lbs. This helps cheese and butter prices to remain higher. The time of year is another factor as holiday orders are being placed and filled. Lower milk prices are looming and prompted the CWT committee to announce another round of the Herd Reduction program. Bids will be accepted through November 24 with the results to be announced in early December.
The principle is correct in that this will eliminate some milk production, but the time of year is wrong as well as the state of the economy. Reducing milk production while demand is decreasing will maintain the status quo, resulting in no real change in price. So, this is not expected to have much impact on milk prices. It may have more impact in the future if demand increases and the economy stabilizes. We need to view this as a measure that may limit milk price decline, but it will take more than this for a price rally.
The percentage of increase in milk production from January through September has been higher this year than last year. The average increase in production over this period in 2008 has been 2.5%. The average increase for the same period in 2007 was 1.73%. This indicates that higher feed prices did not have the anticipated impact on milk production. Many producers had a portion of their feed contracted at lower prices. There was quite a bit of concern earlier this year as to how much feed would cost once these contracts ended in September and October. However, this concern has been alleviated with the decrease in grain prices. Profitability will not be much greater as along with decreasing grain prices, we are seeing decreasing milk prices.
So, we are not much better off than we were earlier this year. The markets always give an opportunity to hedge at good prices during the year. Now is the time to lock up feed costs for next year using futures or options contracts. The opportunity to hedge milk at good prices is past for the time being. Price protection can still be done with certain strategies to avoid milk prices falling below cost of production, but the optimum time is past. Remember, do not dwell on the past and what should have been done, but continue to look forward to opportunities that are here and those that will come.
Upcoming reports to watch for are the October Agricultural Prices report on October 31; the October federal order class prices on October 31; the September Dairy Product Production report on November 2; the Crop Production report and the World Supply and Demand report on November 10.
--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 Web site 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 may not be suitable for everyone. Those acting on this information are responsible for their own actions.
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