Cattle Cycle: What's Ahead

Posted on 03/09/2017 10:24 AM

Most folks who follow the ag markets know about the cattle and hog supply cycles, in which herds routinely expand as price rise, only to reverse when the supply of animals and products exceeds demand and prices drop. The cattle cycle is generally seen as lasting about 10 years from peak to peak. For example, the latest cycle was marked by the truncated herd expansion period experienced during the 2004-07 period and the subsequent contraction that didn’t officially end until January 2014.

Given the herd growth now being experienced by the cattle industry, it’s only natural to expect cattle prices to move lower. However, as in all markets, we shouldn’t expect a slow, steady decline during the months and years ahead. Of course, the first fault with such an approach is the seasonality of prices. That is, fed cattle supplies typically reach their annual lows around this time of year, whereas demand from grocers and consumers as grilling season gets underway causes demand for steaks to balloon. This combination often sends cattle and beef prices to their annual highs in the March-April period. In contrast, fed cattle slaughter usually surges to annual highs by early-to-mid summer, whereas grilling demand slows significantly as summer temperatures rise. That transition routinely sends fed cattle prices tumbling from early spring highs to summer lows.

nebcattle32916"The events of 2014 and 2015 are very interesting from an analyst’s standpoint, since cattle prices hit record highs in November 2014, then suffered a drastic breakdown during the second half of 2015. I believe two different factors exacerbated that drop. First, grocers were clearly reluctant to lower beef prices at the meat counter. That is, while cattle prices peaked in November 2014, steak prices didn’t turn significantly lower until last summer, thereby strangling consumer demand and creating a big supply/demand imbalance.

Producers contributed to the second bearish development by persistently holding out for better prices through spring 2015, since the overall supply of fed animals was still low by historical standards. Given the cyclically tight situation and the success they had had in forcing buyers to accede to their price demands during the 2011-2014 period, this was certainly understandable. However, by refusing to actively sell cattle last spring, producers allowed the supply of market-ready animals to grow and eventually become excessive. Having cattle weights soar far beyond the record highs posted in late 2014 confirmed that shift. Thus, cattle prices plunged, falling all the way from spring highs around $168/cwt to $117 in early October and $116 in December.

What is most remarkable about that string of events is its similarity to those seen during the 1990-91 period. As in 2014, cattle prices peaked and herds reached a cyclical low in 1990. The industry remained relatively optimistic in 1991, but, as was the case last year, allowed the front-end supply of fed cattle to surge, thereby causing a severe price drop that summer. The overlay chart above illustrates the similarity of price action during the two periods under discussion.

The question going forward is will forthcoming price action prove similar to that seen in the 1992-1994 period? That’s rather unlikely, but I think we can count upon some short-term similarity due to the pessimism dominating the market. That is, despite the fact that country prices reached the $138-$139/cwt area in mid-March, CME futures currently imply they’ll fall to $125 by late June and continue sliding through the second half of 2016 and will end the year under $120. Indeed, the Chicago market indicates prices won’t climb back above the $120/cwt level in the foreseeable future.

I tend to think those implicit forecasts, which are clearly based upon ideas that the supply of U.S. cattle is growing rapidly, are overly pessimistic. That’s largely due to the belief that feedyard operators pay a great deal of attention to the message the futures market is sending. The big discounts are telling producers to market cattle in their feedlots as quickly as possible. Moreover, they’re discouraging them from placing yearlings and calves in feedlots. This is a formula for persistently tight feedlot supplies, especially at the front-end.

Thus, it’s entirely possible that the market will hold up much better than is generally anticipated during the weeks and months ahead. On the other hand, I would argue against a surge to fresh highs as seen during the winter of 1992-93, because that advance was largely driven by a series of winter storms over the Great Plains that began around Thanksgiving 1992 and didn’t really relent until February. The point of this whole discussion is simply that a cyclical surge in the cattle population doesn’t necessarily mean that prices will remain under constant pressure during the next few years.

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