By Daryl Timmerman, AgStar Financial Services
We’re thankful for a post-Thanksgiving rally, but could 2017 margins improve further? The fourth quarter hog market rally is impressive. Cash operating losses have been significant, but it could have been much worse. The pork cutout has maintained incredible strength, closing just under $78 per hundredweight earlier this week, which is almost on par with the $80 per hundredweight where it closed out the third quarter. Fourth quarter to date, slaughter numbers report that 4.4% more pigs have been harvested in 2016 as compared to a year ago. Lower slaughter weights have supported cash hog prices, with actual pork production “only” up 3.6% in the same time period.
We have to tip our hats to continued strong demand from our trade partners and to our domestic consumers. Year-to-date total U.S. pork and pork variety meat exports to all destinations are up 6%, through October and up an amazing 14% when looking at October year-over-year volumes. The sustained cutout value during a season when prices normally fall by $10 to $15 is encouraging. The strengthening cash hog market leads one to believe strong exports have continued through November and into December. We believe that the strong exports are the reason that the forecasted 12-month average for profit margins has improved by nearly $25 per pig since the end of September.
While the forecasted profit has improved by $25 per pig, margin averages are still only at a break-even level for the typical producer. There is optimism that feed costs will remain low for 2017. Farmers are also optimistic that basis levels will tighten and higher cash hog prices will be supported as the new packing plants come on line in 2017. While these numbers are encouraging, consumers in the United States have a large amount of pork and other competing proteins to eat, as our exports face challenges. Exports in 2017 will be challenged by a strengthening U.S. dollar and from potentially strained political trade relations under the new administration.
Mexico, our largest trading partner, is reportedly expanding their sow herd. After a year of record large on-farm pig profits in China, the Chinese sow herd is certain to expand as well. The USDA December Livestock, Dairy and Poultry Outlook reports that China’s pork imports from all global sources have already begun to narrow from the extreme levels we saw this past summer. As both U.S and European Union pork supplies look for a replacement home, outside of China and other key markets, for their pork, we will see downward pressure on global pork prices. Currency values will make it increasingly challenging for the United States to compete on a pricing basis as the Euro/U.S. dollar exchange is now even lower than its most recent record low in March of 2015.
While the fundamentals may seem to be giving a signal for caution, the details of the current 2016 fourth quarter would have lead me to believe that we would be seeing much lower cutout and cash hog prices than we have today. This speaks to the continued need to focus on risk management. Pig farmers are in business to make money, so it is difficult to lock-in margins at a breakeven today. However, with a recent forecast to lose $25 per pig on every pig sold for the next year, the opportunity to simply breakeven for 2017 is much more appealing.
Positioning for success
Beyond executing on the operational tasks of managing diets, ventilation and biosecurity, keep an eye on margin management. Stay connected with your risk management adviser to determine ideal strategies that capitalize on potential rallies and to responsibly protect the health of your balance sheet. Each producer has their own appetite for risk and philosophies around strategy complexity.
Working with an adviser who understands your decision-making style and your business needs is important. Be sure to stress test market moves against your balance sheet to understand how potential strategies will insulate you from losses. While the market has rallied, we need to remember that the market can giveth and the market can taketh away.
Timmerman is a senior financial services executive for AgStar Financial Services. For more insights from Timmerman and the AgStar Swine Team, visit AgStarEdge.com.