Are Butter Supplies Really That Tight?

Published on: 18:18PM Sep 28, 2015

Each year contains surprises in the dairy industry. We knew record cheese, butter, and milk prices in 2014 were not going to hold, but they were good while they lasted. The downturn in the underlying cash prices that took place in the fall of 2014 were followed by the substantial decline of milk prices. Class III milk futures indicate a milk price that would be $8.80 below September 2014 when a record price was achieved. This certainly has impacted farm profitability, but it has not slowed milk production. USDA estimates milk production this year to increase 1.3% over 2014 with the estimate for 2016 showing another increase of 2.1% over this year. Remember, these are just estimates, but there is little time left this year to significantly change the level of milk output. However, there is plenty of time for events to impact 2016 milk output.


Even though cheese and whey prices are substantially below levels last year, butter made a new record high reaching $3.1350 at the end of last week. This strength of price has certainly been a surprise considering some underlying fundamentals. Milk production remains above last leaving sufficient milk available for butter production. August butter stocks remained 21% higher than the previous year. Year-to-date butter exports are down 74%. These statistics would not support a strong butter price. However, there are some other factors involved that have been responsible for a stronger price than expected. When cream supplies tightened and cream prices increased, butter manufacturers reduced production to remain close to demand. Reducing production allowed the selling of extra cream to other operations to take advantage of the strong cream price. Less churning resulted in less moving to inventory. Higher prices reduced the desire to increase churning as cream supply began to loosen. There was little incentive to increase plant inventory at a high butter price. No one wanted to be caught holding high priced inventory if price fell. But price did not fall due to continued strong buyer interest. Then, McDonald’s Corp. announced it will switch from margarine to butter in all of its U.S. restaurants in October which is expected to increase butter demand by around 25 million pounds per year. This explained the strong support of butter price, but also brought more buyers in from the sidelines to pick up whatever supplies were available resulting in a buying frenzy. Even though butter supply is sufficient for demand with supply above last year, buyers that had been waiting for a price break for increasing ownership found themselves between a rock and a hard place. This was compounded by the ever increasing price requiring buyers to continually raise bids.


The strength in butter prices has resulted in a substantial change in Class IV price. Daily calculations for Federal Order prices showed Class IV moving above Class III for the first time this year on September 15. On Friday, the daily calculation showed Class IV above Class III by $3.38. Remember, this is based on a daily calculation and will not be the difference based on the monthly calculation of weekly AMS prices.


High butter price certainly has provided a benefit to milk prices having been able to offset much of the weakness seen in cheese and dry whey price. The real concern developing is how much impact price will have on demand and whether there will be a void under the market once buying interest is satisfied. Using the price calculations for Federal Order prices and keeping cheese prices at current level, but using the current December butter futures of $1.97, it would equate to a Class III milk price of $14.32. If cheese prices were to weaken further, milk prices will quickly fall below $14.00. So, there is plenty of risk out there for lower milk prices. Refer to my previous article for hedging strategies of utilizing option fence positions and adding the sale of lower put options. I have an updated strategy that can be utilized. It consist of the fence position of purchasing put options and selling call options to protect downside risk and then add the purchase of all options 50 cents above the sold call options in order to capture upside price potential if milk prices exceed the purchase call options. This provides a well rounded position leaving your cost confined to the premium paid for the position if the market declines and to the upside the risk is the 50 cents between the sold call and the purchased call plus the initial premium paid for the position.  



Upcoming reports:


-August Agricultural Price report on September 29

-September Federal Order class prices

-August Dairy Products report on October 1

-September California class 4a & 4b prices on October 1

-World Agricultural Supply and Demand report on October 9



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


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