Milk Prices Expected to Rally Despite Record Production

Posted on 03/09/2017 10:22 AM

Despite persistently weak milk and product prices, as well as an upward turn in grain prices and feed costs, U.S. dairy producers continued their recent herd expansion during April. After having trimmed herds rather sharply in January, when the national milking cow herd at 9.309 million head came in 11,000 below the ending-2015 total and just 1,000 over the comparable January 2015 result, producers have actively increased herd sizes. USDA's April estimate at 9.331 million topped the May 2015 peak by 7,000 head. The feed cost reductions experienced during the first quarter apparently offset the concurrent erosion in milk prices.

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The relative abundance of moisture and good pasture around the country helped boost April milk production per cow 1.05% annually to 1,929 lbs. per cow, with U.S. output reaching 18.0 billion lbs. during the month of April. That represented a 1.2% annual increase, thereby marking the twenty-sixth consecutive year-to-year rise. It also represented the fourteenth straight monthly record.

The upward trend in the dairy population may continue through this month, since the U.S. milking cow herd traditionally reaches an annual high during the May-June period. Also, price margins don't seem all that bad, as indicated by the difference between the 'all-milk' price published by USDA and the traditional 16% dairy ration. It declined during the first quarter, but the latest figure is within the range of general lows seen over the past five years and well above the nadirs reached in 2009 and 2012. However, the April-May rally in corn prices, as well as the soaring cost of soybean meal, have boosted costs substantially. In contrast, CME Class III milk futures indicated May prices represented the lowest levels since late-summer 2009.

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The Chicago market implies a sustained seasonal rally at this point, with Class III futures forecasting a rise to the $15.00 area by early autumn and prices remaining above that level throughout 2017. That almost surely reflects general expectations for a producer cutback during the coming months. Doane doesn't disagree with such ideas, especially if the spring 2016 corn and soybean rally persists into harvest. That is, if the surprising rise in feed costs continues, it will almost surely cause producers to cull their herds more aggressively during the second half of the year. Moreover, if those costs rise strongly enough, having producers cut corners in the feeding process may slow or temporarily reverse the upward trend in milk production per cow.

The early-2016 breakdown in the equity indices came to an apparent end around mid-February, with a sizable rebound occurring into mid-April. The global economy remains a concern, but talk of slowing Chinese and global growth has diminished greatly this spring. The widespread currency market conclusion that the Federal Reserve would be in no hurry to raise U.S. interest rates, as well as hopes for solutions to several international economic/currency problems, weighed on the value of the U.S. dollar through April, thereby improving the trade situation somewhat. Surprisingly strong corn and soybean exports helped power the recent crop market rally, whereas a moderate improvement in the U.S. dairy trade balance also seemed to occur. Unfortunately, the domestic industry probably can't count upon that trend continuing.

Doane still thinks the domestic demand situation will improve this year, due largely to the belief that persistently low farm and wholesale quotes will persuade grocers to become more aggressive in cutting retail prices. Consumers will almost surely respond to perceived bargains. Butter and cheese demand apparently continue growing, but cheese production appears to be rising even faster, as indicated by the sustained price weakness seen so far this year. In fact, the CME cash market price for 40-pound block cheese recently fell below $1.30/pound for the first time since the depths of the Great Recession in 2009. Butter prices have held up well by comparison, as indicated by early-May quotes over 25% above those seen last spring despite strong production increases in February and March.

Much depends upon the behavior of crop and milk prices during the weeks and months ahead. Favorable weather would seem likely to keep dairy industry production rising, since crops, grass and cows would probably prosper. That implies lower feed costs and persistently large production. Conversely, a hot, dry summer and the rising feed costs such circumstances would entail might accelerate the long-awaited industry push to cut herd sizes and milk production. The relatively strong forecasts implicit in CME futures might slow such a move, since the promise of higher prices may persuade producers to put off herd liquidation. Doane continues thinking producers will cull herds much more aggressively this autumn unless feed costs substantially reverse the strong early-spring gains. A more conservative approach seems likely to prevail through much of 2017 as well, with herd expansion potentially coming in 2018.

We think chances of a global recession have significantly diminished since late winter, but such conditions can't be ruled out either. "Normal" weather is still assumed to prevail, although divergences will almost surely occur in different regions. We see little reason to think the long-term upward trends in production and consumption won't persist during the next five years. As always, the outlook depends upon which grows more quickly and the manner in which prices react in such circumstances.

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