Higher Cheese Purchases May Suppress Seasonal Rally

Published on: 14:31PM May 22, 2009

By Robin Schmahl

Unfortunately not much has changed fundamentally over the past two weeks, when this column was last written.  

There was a brief price jump in Class III futures contracts of nearly $1.00, but it was very short-lived. Since then, Class III futures contracts through August have made new lows. Prices are rolling down as the steady cheese price is diminishing the potential for these prices to be achieved.

The announcement from the CWT committee that 102,898 cows would be eliminated has not yet accomplished the desired affect of bringing buyers back into the market. In the past, the announcement of the number of cows that would be eliminated had a psychological affect. Traders would buy futures contracts to take advantage of the higher prices that were sure to come and cheese buyers would become more aggressive in the purchasing of cheese. However, the past two rounds have only resulted in lower milk prices. This has caused the trade to take a wait and see attitude before making any decisions.

Traders will wait to see if 2 billion pounds of milk will actually be eliminated or whether other farmers will increase cow numbers and/or production compensating for some of the loss. Traders will wait to see if consumer demand will increase enough to tighten supply resulting in more aggressive buying of dairy products. Traders will wait to see if world markets will change causing world prices to increase. Basically, traders will wait until they see results.

April milk production did not fall below the year earlier level as many had expected. Instead production was virtually steady with a year earlier. With the revision of March production showing an increase of 0.1 percent, production in the top milk producing states still have not shown a year-over-year decrease since June 2004. This streak may end with the May production report. The most recent report did indicate farmers slowed their culling activity with only a decline of 2,000 head from March. The April Livestock Slaughter report confirmed this with a dairy cattle slaughter of 215,000 head; 23,000 fewer than the previous month and 4,000 less than a year ago. Many farmers have been waiting for the results of the seventh round of the CWT herd retirement program.

The bottom line is that milk prices are low because supply is plentiful relative to demand. My concern is the strength of milk prices later this year. There have been 868 loads of cheese traded on the CME Group’s spot cash market since the beginning of the year. This is the most since I have kept record back to 1999 and likely a record for the spot cash market in history. Previously, the record was set in 2007 with 510 loads traded over the same period of time. Slower demand and willingness of buyers to purchase cheese at these prices indicates their desire to buy and hold for later demand, which may keep any seasonal price rally in the fall and winter from developing. Buyers will not need to be aggressive except for fill-in demand for fresh cheese that will be traded on the Exchange’s spot market. We have seen this happen in the past when higher stocks were on hand later in the year, and the market is certainly setting up for this to happen again.

I currently have no recommendations for hedging milk. The market needs to bounce in price before establishing fence positions. This consists of purchasing a put and selling a call to establish a parameter. This is still my preferred strategy as it establishes a floor while allowing the capture of some upside price potential.

Upcoming reports to watch for are the Agricultural Price report on May 29; the California 4a/4b milk prices on June 1; the Dairy Products report on June 4; the May federal order class prices announcement on June 5.

--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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