Market Watch Diary: How We Got $17 Milk

March 2, 2011 12:11 PM

Bonus Content

CME Group Class III futures

There’s not as much seasonality to dairy as there used to be. It still plays a role, but other factors have become more important. In the first six weeks of 2011, those factors were nothing short of remarkable.

February has historically featured the lowest cheese and milk prices of the year; it’s been a time when manufacturers build stocks. When the calendar flipped over to 2011, there was little to suggest this year would be any different.

Blocks were still trading in the mid $1.30s. Cheese production was heavy, inventory sat at record highs and domestic sales were just so-so.

Within a few weeks, however, higher international prices, higher butter/powder values and higher corn prices lit a fuse under the cheese market months earlier than usual. Blocks increased for 20 straight days while making a run at the $2 per pound plateau.

DT 034 D11042Even in early December, the expectation was for lower prices in the first quarter of the year, both domestically and overseas. Buyers planned accordingly, postponing purchases until after the holidays.

But two things happened on the other side of the globe: Consumer demand for dairy turned out to be more resilient than previously thought, particularly in China. And weather events in Oceania (drought in New Zealand, floods in Australia) slashed production forecasts.

As a result, buyers came back after the first of the year and ordered aggressively. World prices, already higher than domestic prices, rallied anew. U.S. prices—first butter, then powder—quickly followed. When the benchmark U.S. butter price hit $2.10 in the first week of January, it meant Class IV values penciled out at more than $4 above Class III—the biggest spread in more than a decade. Cheese manufacturers were forced to bid prices higher to keep milk flowing to their vats.
Meanwhile, a week before Christmas, Congress agreed to extend ethanol tax credits and import tariffs for another year, ensuring astronomical corn prices in 2011.

Faced with the prospect of $14 milk and $6-plus corn, many anti-cipated massive culling that would leave buyers short later in the year. The dairy market, however, corrected this inequity itself with a swift and breathtaking rally, forestalling the culling everyone was worried about.

By mid-February, order was tentatively restored. Class III and Class IV milk values were approaching equilibrium. Fast-moving milk futures gave dairy producers the opportunity to lock in profitability. The gap between U.S. and world prices narrowed.

Because the market has jumped so early, there’s a chance we’ll see a counterseasonal move in 2011, with lower prices in the second half of the year than in the first. But there are still some seasonal patterns that should be respected.

In the last 20 years, the October Class III price has been higher than the February price 17 times. That bodes well for 2011, when the February price will come in close to $17.

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Spell Check

3/2/2011 03:03 PM

  I do not think we forestalled any culling.


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