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Market Pressure to Persist in Livestock Sector

Both the cattle and hog markets have been in downward trends for multiple months. While the cattle market has shown some signs of life in recent weeks, it is likely to be short-lived. The bottom line is that slaughter numbers for both remain high. Hog numbers are running at a pace that suggests producers expanded more rapidly than first thought.
 
Last week’s hog slaughter was exceptionally large at 2.466 million head (8% larger than a year ago). Typically, the fall and early winter months have the heaviest slaughter numbers for hogs, so there’s little expectation that daily slaughters will be declining in the near future. Daily slaughter numbers are consistently near or above 435,000. A number this size or larger would suggest ample supply in inventory. Private estimates suggest the packers’ slaughter capacity is near 2.44 million head per week. This implies that, if there is a large Saturday kill, slaughter capacity might be maximized.
 
Cattle futures, on the other hand, continue to show signs of life, yet just as quickly fall apart. This past week saw cattle futures rising from their most recent lows, with October bottoming on September 6 at $99.37 and then quickly rallying to $108.77. However, futures ran into overhead resistance at both the 40- and 50-day moving averages, and have since dropped back under $104.00. With choice cutouts hovering just under $190 and select near $180, we’re challenged to believe that prices will continue to make a move upward, and that the recent recovery was nothing more than a technical bounce in a downtrend.
 
When prices decline, it becomes more and more challenging to take a defensive posture in front of a downtrending market. Until there’s a definitive sign of a bottom, or slaughter numbers begin to lighten in either hogs or cattle, our bias is that prices can move lower more easily than they can move higher. Utilize put options if you’d like a flooring mechanism with a fixed cost and risk. A more aggressive strategy is hedging by shorting futures, or a fence strategy by purchasing a put and selling an out-of-the-money call. In the fence, the goal of the short call is to collect premium and reduce the cost of the put. Keep in mind that you must be willing to accept a hedge at a higher level, should the person who purchased the call decide to exercise the option. If exercised, the purchaser is assigned a long futures position, and the seller (you) is assigned a short futures position at the strike price.
 
As we look to the fourth quarter, there will be increased competition from turkey meat as Thanksgiving approaches, and a seasonal tendency for hog slaughter numbers to be on the rise. Cattle supplies are expected to be adequate. This was reflected in the USDA September 22 slaughter report, in which production was up 17% from the previous year. Livestock prices have a tendency to be cyclical in nature. With the advent of cheap and available grain the last three years, we’re not surprised to see the increase in production. Improved practices by farmers and ranchers, cheap feed, and hopes for a return to high profit margins have increased supplies faster than demand can utilize. Stay with a strategy that maintains a defensive posture.
 
If you have questions or comments, or would like help in creating a balanced strategy for your operation, contact Bryan at Top Farmer Intelligence (800-TOP-FARM, ext. 129).
 
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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