Hog Slaughter Could Test Packing Industry Capacity in Late 2016

Posted on 03/09/2017 10:22 AM

USDA's June 24 Quarterly Hogs & Pigs Report was viewed as bearish by the market, due largely to a comparatively large spring farrowings total. The industry expected most population numbers on the report to rise about 1% annually, but the combination of a 1.48% year-to-year increase in March-May sow farrowings combined with a 1.06% yearly increase in litter sizes to produce a spring pig crop 2.55% larger than seen one year ago. The fact USDA rounded that percentage figure up to 103% (as per normal practice) likely exaggerated the negative psychological impact of the report.

The June 1 population of heavyweight hogs (180 pounds and over) at 1% over year-ago essentially equaled recent slaughter differences and pre-report estimates. The number of hogs weighing 120-179 pounds at 101% of last year topped forecasts averaging just 0.3% over last year. The real surprises stemming from the larger spring pig crop came in the lighter weight (50-119 pound and less than 50 pound) categories, both of which came in 2% over June 2015. These data suggest early-to-midsummer hog kills will tend to remain about 1% over year-ago, then generally run about 2% over 2015 levels through late summer and fall. Such large numbers look rather bearish for the late 2016 price outlook.

slaughter_capacity"The chart above takes the numbers from the weight breakdown and plots very tentative forecasts for weekly U.S. hog slaughter through the balance of the year. The first thing that jumps out are the offsets in the kills likely to be seen around the Independence Day and Christmas holidays. Both shift from late one week to early the week following due to the leap year; these will significantly affect packer activity. I would particularly note that Christmas 2015 came on a Friday, thereby shutting down packer activity that day and on the day following. Having it come on Sunday this year will likely limit the shutdown to Monday, December 26. The chart implies weekly kills will tend to run about 1% over year-ago levels through much of July and August, then average about 2% over 2015 rates through the final four months of the year. Overall, I've used the pattern indicated by the 10-year mean as a guide for the suggested totals depicted later in the year.

However, there is a potential major issue that might arise in late 2016. Note that weekly hog slaughter posted a mid-December 2015 peak at 2.499 million head. That essentially topped the packing industry's slaughter capacity at 2.491 million. (This figure and the following capacity estimates were provided by Steve Meyer of EMI analytics. They are derived by multiplying daily capacity totals by 5.4 workdays, which packers can reportedly sustain without incurring exaggerated costs.)

Packing industry capacity for 2016 is currently projected at 2.496 million, thereby suggesting the late-2016 hog supply, which may top year-ago levels by 2%-3% could exceed slaughter capacity for several weeks. Such large supplies probably won't be an issue in 2017, when the anticipated opening of several new plants is expected to boost the packer processing limit to 2.615 million head per week.

Talk of hog supplies topping the packing industry's ability to handle them for more than a few days is a scary thought, especially for those who lived through the 1998 situation and resulting price collapse. It's certainly possible that hog and pork prices could suffer badly if late-2016 conditions prove similar. Conversely, circumstances might not prove all that bearish if packers have the proper incentive to run plants longer on Saturday and possibly on Sunday.

Ultimately, that could require very vigorous demand from domestic consumers and international pork buyers. The late-spring strength exhibited by summer hog futures was rather clearly predicated upon ideas that pork demand would prove quite robust during July and especially August. The cash market has clearly outperformed previous expectations in recent weeks, but its ability to sustain that strength is open to question in the wake of the recent futures setback. The relatively large slaughter totals implied by the Hogs & Pigs report didn't help the bullish cause.

I'm cautiously optimistic on this score, thinking strong Chinese imports could support the market quite well during the coming weeks. Conversely, cash price slippage during summer might reflect disappointing demand and presage an exaggerated fall decline. As a consequence, hog industry participants might be well advised to establish some fourth-quarter price protection despite the sizable discounts already built into October and December futures.

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