Lower Milk Prices May Not Mean Less Profitability

Published on: 14:11PM Jul 07, 2014

The market is weighing the impact that high prices may have on demand as well as how much milk supply will be available.

There is much speculation on whether the top is in for milk prices. Seasonally, one would have to say that it is not. Higher prices generally are seen in September and October. However, this year, such may not be the case.

Record milk prices were seen in April and have declined marginally since. Current futures contracts hold a discount through mid-2016, with prices hovering at $15.85. That certainly is not a very positive outlook for milk prices. Current fundamentals are mixed as to what the last half of the year will bring. Good demand continues to support the market with tighter stocks than desired heading into the time of year when demand increases as buyers look forward to expected later year demand.

Market participants are trying to weigh the impact high prices may have on demand as well as how much milk supply will be available. Feed prices and availability do not seem to be an issue this year if current weather patterns hold. Weather forecasts do not indicate a heat dome or extreme heat through the Midwest in the foreseeable future. Dairy farmers are interested in increasing milk production as much as possible to take advantage of high milk prices and profitable income-over-feed costs.

Despite good demand around the world, world prices continue to weaken. The latest Global Dairy Trade auction showed another decline in overall price, making it the ninth decline over the past 10 trading sessions and the lowest trade weighted average since Feb. 9, 2013. This will have an impact on U.S. prices and already has. It has not yet been overly negative due to previous export orders being filled from contracts made earlier in the year. More impact may be felt soon as these contracts are filled and new orders need to be placed. USDA indicated in its weekly Dairy Market News publication that international demand has slowed for both cheese and butter due to high prices. Butter is primarily the one category that may feel the greatest effect as the U.S. price is about $1.00 per pound above world price.

The recent decline in milk futures indicates traders feel cheese prices may have a greater difficulty moving back above $2.00 again. That is the reason futures declined substantially during the first week of July. Contracts through the end of the year declined nearly $1.00 per cwt., which may be difficult to regain.

It does not seem milk prices will fall out of bed, but lower prices may be on the horizon. One thing we must keep in mind is that lower milk prices with lower feed prices will not be quite as hard to swallow, but milk checks will not be as good as they had been. Price fluctuations are the nature of the market as supply and demand factors unfold.

My current hedging recommendations are the same as they had been the past three weeks, and that is to establish put option spreads consisting of buying at-the-money puts and selling puts $1.25 below the market. This provides limited downside protection while allowing upside gain. It requires no margin other than the option premium. This strategy provides substantial flexibility while also providing some protection.

Upcoming reports:

- World Agricultural Supply and Demand report on July 11
- June Milk Production report on July 18
- June Cold Storage report on July 22

Robin Schmahl is a commodity broker and owner of AgDairy LLC, a full-service commodity brokerage firm located in Elkhart Lake, Wis. He can be reached at 877-256-3253 or through his website at www.agdairy.com.

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