April 18, 2022
In contrast to Dickens' iconic novel (ie, it was the best of times, it was the worst of times...), the market structure for pork producers – and all of animal agriculture, for that matter – is in the most dynamic of times. World events continue to influence our markets by generating factors that renders some of our day-to-day analysis as worthless. In this article, I will attempt to identify the various forces that are moving the market and reference what I call the "whispers" that might give us the next hint of direction.
Let's first define if things are out of whack. Take a peek at the corn and soy scatters derived from the WASDA report earlier thins month. Notice an outlier? Both corn and soybeans are trading at a significant premium to their historical norms in the carryout/price relationship. Academically, we "should" be trading at closer to $5 per bushel on corn right now – a solid $2.50+ discount to current values and $12 on beans, a whopping $5 discrepancy. That definitely qualifies for the something-is-askew conclusion.
The "why" behind the "what" has more to do with investor mentality as it relates to inflation rather than a direct result of the Ukrainian invasion. Investor mentality and Putin's war are inexorably linked, but there are a myriad of other items that macro economic parameters take into consideration. My argument would be that the inflationary environment that we are currently experiencing (this one is not going away anytime soon) is more impactful than the global unrest of military action. It is against this backdrop that I offer you three different methods for evaluating fair market value and how it is important to have more than one method of discernment in the event that your chosen tool is not a reliable predictor of future values.
Lets start with the investor community. They are the driving force in the market and ignoring their stimulus/response criteria would be a painful experience. Consider this:
March Consumer Price Index was up 1.2% for the month of March alone, it is up 8.5% year-over-year. Note that rent comprises 30% of the CPI and has not yet caught up with the market. Rents will be moving higher.
Energy prices are up 11% in March. This, in combination with other inflationary factors, has led to a reduction real earnings (defined as cash minus inflation) of .8% for the month of March and is down 3.6% for the year.
The M2 money supply is up over 40% compared to two years ago. This infusion of money in the face of supply chain disruptions is the definition of inflation – more money chasing fewer goods. The current administration pumped some needed money into the economy to stave off the effects of COVID, they may have forgotten to shut off the spigot for a little too long and the proverbial cattle tank was overflowing and flooding the field. A little bit of stimulus was a good thing, too much leads to inflation.
The price of goods is up 15.7% year over year, the price of services is up 8.7%. The only method that the Federal Reserve has to decrease its balance sheet is to refrain from purchases after the then-current tranche rolls off. This is a painfully slow process and the threat is that too much of a whoa leads to a recession.
The conclusion of all of this is that the investor and speculative community have ample reason to buy commodities and have been rewarded handsomely for their efforts to date. There is no compelling argument right now to change this behavior and market breaks should be viewed as buying opportunities.
Traditional thinking of supply/demand economics would say we are trading at too high of values. Attached is the analysis from the University of Illinois, they do a solid job of analyzing markets. Note their new crop balance sheet value for corn is $6.00 per bushel because that is closer to where things "ought" to trade if things were normal. Things are not normal.
A trader would evaluate this and ask a different question: can we perform on the assumptions? I would offer that meeting our export targets could be difficult in a year when transportation difficulties are present. The Surface Transportation Board has called in the executives of all of the major railroads in an effort to discover what can be done to ease the bottlenecks. This extends well beyond agriculture as every railroad is congested at major hubs, deficit power in some cases, deficit labor in all cases. Our ability to execute on the current sales may be hampered if logistics do not relax.
Further, our ethanol grind is running at a pace that has inventories at the top end of the range. We are already off a bit on fuel consumption with the January numbers confirming the trend, the prospects of high-priced fuel will likely keep the marginal consumption of fuel at bay which does not bode well for ethanol grind. President Biden was recently in Iowa to tout his year-round E15 initiative, complete with a John Deere tractor in the background.
The truth is that E15 in its current configuration will never move the needle on ethanol demand because of the lack of infrastructure. There are approximately 150,000 fuel stations in the United States, each one has an average of eight pumps. This math would suggest there are a total of 1.2 million fuel pumps in the United States. The Obama administration set a goal of 10,000 blender pumps, the best numbers I can find indicate there are only about 2,500 in operation – this policy will not amount to much. If we were to choke off ethanol grind because of our decreased fuel consumption, this would allow some slack in the corn balance sheet and decrease the pressure on the corn to perform by providing a bit more buffer.
The bottom line: the speculative community has a firm grasp on our input markets and it shows no sign of waning anytime soon. The hype in the market may be mitigated by widening basis as the fundamental market is unable to support prices at their current level. We still tend to think that inflationary pressures are not fully incorporated into the market and may represent a buying opportunity for the distant months – specifically, the December 2023 and 2024 options on the CME.
Comments in this article are market commentary and are not to be construed as market advice. Trading is risky and not suitable for all individuals. Click here to contact the author.
Source: Joseph Kerns, who is solely responsible for the information provided, and wholly owns the information. Informa Business Media and all its subsidiaries are not responsible for any of the content contained in this information asset. The opinions of this writer are not necessarily those of Farm Progress/Informa.
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