Drought effects continue to ripple
U.S. agricultural markets are anxiously anticipating next year’s harvest—in South America. According to CoBank’s recently released Quarterly Rural U.S. Economic Review, drought-stunted supplies of feed grains and soybeans have bolstered U.S. prices and are imposing debilitating cost pressures on the animal protein and dairy complexes. For good or ill, this trend could be significantly exacerbated by the success or failure of South American harvests to meet world expectations.
In the report, titled "Sputtering Global Economy and Drought-Impaired Agricultural Markets," CoBank notes that "the near-term outlook for agricultural markets depends critically on next year’s South American crops. If they fall far short of the markets’ towering expectations, the grains and oilseeds markets would end up tighter than a drum, with prices soaring to new record highs."
The report, which takes a comprehensive look at economic and agricultural trends in the third quarter of 2012, naturally focuses heavily on the ill effects of the 2012 drought, which are now rippling through the agricultural markets.
As farmers harvest what remains of crops damaged by drought conditions rivaling those of 1988, the report notes, recent indicators suggest dramatic differentials in harvested yields and grain quality, not simply by district or county but also from field to field. Current stocks are tight, and prices remain extremely volatile. The latest estimates indicate that crop harvests this year will be well below trend expectations.
Despite sharply lower production, farmers will receive significant revenue support from crop insurance indemnities and elevated prices. Grain handlers, however, will be somewhat less fortunate. Following the flurry of grain storage construction in recent years, the industry will fill its bins to only about 65% of capacity this year. In addition, drying revenues will decline, and a market price inversion will prevent elevators from earning a "carry" as they hold inventory over several months. Grain handlers will have to contend with higher concentrations of aflatoxin in their corn deliveries this year.
Even harder hit will be the animal protein, dairy and ethanol industries, which will bear the brunt of the drought in the months ahead. Ethanol margins have been severely squeezed by high corn feedstock prices. Moreover, with feed costs having risen more than 50% during the past two years, the livestock industry will be adjusting its operations for months—or even years—to come in an effort to restore profitability.
Their only hope of getting market prices realigned with break-even price levels is by culling their herds and flocks substantially. Surprisingly, after trimming inventory and cutting back on production, the broiler industry is better positioned to weather the shock of high feed prices for the next year.