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Dairy Farmers Get Ready, Analyst Says

Price rallies are not strong enough to spark selling.

Milk prices have been nothing to brag about over the last few years. A recent recovery, however, suggests there is potential for prices to move higher due to strong demand. Exports are providing support, running 18% higher than a year ago. Domestic demand remains strong as well, due to a good economic environment. Even so, the dairy market still struggles. An increase in production year-to-date of 1.3% suggests inventories are likely to be ample, at least in the very near term.
 
The dilemma that most producers are facing is that prices are not strong enough to produce profits, and at the same time, not weak enough to consider a major change to their operation. We will call this a gray area, in which farmers increase production to improve cash flow. In essence, they do what they do best, increase production. This is reflective in cow numbers. The end result is a supply increase. Cow numbers are relatively stable. The USDA July Milk Production report indicated just under 9.4 million head compared to the January estimate of just over 9.4 million head. Milk per cow per day is up nearly 1% year-over-year.
 
On one hand, we believe that a gradually growing demand market suggests supply will eventually tighten, and milk prices will move higher. Many prognosticators are anticipating a potential recovery in milk prices to over 17.00 toward the first quarter of next year, with prices potentially reaching 18.00. With soybean meal and corn prices languishing in the bottom third of price ranges for the last 10 years, it is likely that dairy farmers will be able to quickly ramp up production if higher prices occur.
 
A marketing dilemma also exists, with price rallies not strong enough to make easy sell decisions. Unfortunately for many, they are not sure what to do, so they do nothing. This could be a mistake. We suggest a more aggressive and defensive approach. October, November, and December Class III milk contracts all traded well above 16.50 just a couple days ago, above midsummer lows near $15.30. We suggest purchasing puts or purchasing puts and selling calls (fence strategy). In addition, consider forward contracting up to 25% or more for the fourth quarter. Next year may require some patience. If 16.25 presents itself as an average for the first six months of the year, consider contracting at a level you are comfortable with, and probably nothing less than 25%.
 
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If you have questions or comments, contact Top Farmer at 1-800-TOP-FARM, ext. 129, or ask for Bryan Doherty.
 
Futures trading is not for everyone. The risk of loss in trading is substantial. Therefore, carefully consider whether such trading is suitable for you in light of your financial condition. Past performance is not necessarily indicative of future results.
 

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