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Be aware of outside market forces

Economics 101 teaches the principle that as price goes higher, demand falls and other new alternative supplies enter the market to reduce demand. As a result, eventually prices turn lower.

I have been amazed that with the huge rally in corn futures from $2.25 in the fall of 2006 to over $5.00 this spring, usage has not slowed until the last 60 days when some reports finally show a slowdown in usage. The soybean market has rallied from $6.00 to over $13.00 per bushel with U.S. and global demand staying very strong.

There are four factors that have caused the rally to move higher with no real reduction in demand.

  • Weak U.S. dollar
    The weak U.S. dollar has insulated a lot of the world from the huge run-up in the U.S. commodity markets. The chart below shows the international value of corn. Prices are now getting up to some historic highs, but prices are still below the 1984 and 1996 highs in international terms.

  • Wheat rally
    The rally up to all-time record highs in the wheat market has taken wheat out of the U.S. and global feed grain markets. When European or Asian feed grain buyers are looking at the least-cost feed formulation, they are still using mainly corn. By feeding less wheat and more corn, it has also increased soybean meal demand.

Hybrid corn product
Corn is looked at now as a hybrid product, providing feed and fuel. With crude oil going up to $100 per barrel and ethanol up to $2.30 per gallon, ethanol plants have been able to pay up to $5.00 per bushel and still break even.

Global oilseed buyers
Global oilseed buyers have had limited alternatives to turn to. The smaller canola crop in Canada has sent more buyers into the U.S. soybean oil market. More palm oil is being used for biofuel production, so again world vegetable oil buyers are purchasing soybean oil.

When you review the monthly USDA reports, you can't always see the longer term trend in usage until three to six months after the reports are released. In other words, if corn usage is starting to slow dramatically in March and April, that slowdown won't show up until the June or July monthly supply-demand reports.

Following are some of the main factors that could signal that corn usage is slowing down.

  • The one factor we're already aware of is the liquidation in the Canadian hog industry. The combination of low hog prices, high feed prices, and the strong Canadian dollar has had a devastating impact on profits.
  • Watch U.S. slaughter weights for cattle and hogs. A large reduction in slaughter weights can have a major impact in the amount of corn used for feed in the U.S.
  • Watch the USDA Hog Report for a reduction in the hogs kept for breeding, signaling a slowdown in U.S. feed consumption.
  • Watch the USDA Weekly Hatchery Report for a slowdown in eggs and broilers set. So far this year the industry has been fighting red ink by expanding by four to five percent.

The rally in the corn and soybean markets will ensure that we do not run out of corn and soybeans. I can see two possible solutions or some combination of these two.

  1. Reduced demand
    I look for a drop in demand by cutting back on corn used for feed, ethanol, and exports. The last USDA Corn Supply-Demand table above shows three main categories of use: Feed at 5.9 billion bushels, ethanol at 3.2 billion bushels, and exports at 2.4 billion bushels. A five-percent drop in feed will have a lot more impact than a 10% drop in ethanol production or exports.

    For soybeans, the shutdown of several biodiesel plants has reduced the demand for soybean oil, and now the possible slowdown in feed usage will eventually reduce meal demand as well.

Increased supply
With 2 million acres less winter wheat in the U.S. and the possibility of 2 million acres of CRP and pastureland going to row crops, we could end up with 4 million acres less corn and 8 million acres more soybeans in 2008. With high corn and soybean prices, farmers are buying inputs to maximize production.

If weather cooperates and the U.S. ends up with a trend line or better yield in corn and soybeans at a time when usage is declining, it sets up for lower prices by this fall. If we experience planting delays or drought at the wrong time this summer, prices are likely to be very volatile. The higher prices go, the more painful will be the price rationing process we go through on the livestock, ethanol and biodiesel industries.

Stay with a disciplined scale-up market plan by making weekly cash sales of your remaining inventory. We have suggested being at least 30% forward sold on new crop corn, soybeans, and wheat at this historic price level. For producers who are willing to use puts, we will likely get price protection on 60% to 100% of the crop by later this spring.

Economics 101 teaches the principle that as price goes higher, demand falls and other new alternative supplies enter the market to reduce demand. As a result, eventually prices turn lower.

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