August 7, 2017
The summer of 2017 will likely go down in history as “the great head scratcher” for the pork industry. Hog supplies have been record large virtually every week this year and yet we have seen higher prices than one year ago. “Yes, but we have more packer competition!” the believer in packer conspiracies might say. But packer margins have been higher than one year ago every week but two this year. They haven’t exactly bid away their profits chasing hogs and yet we topped out in the low $90s (even if you never saw that in a price report) and are still over $80 on net prices while costs remain in the low- to mid-$60s.
To top it off, real per capita expenditures for pork, our primary metric of U.S. consumer-level pork demand, has trailed year-ago levels every month but one so far this year and hit its lowest level in three years in May. That would suggest that demand at the retail level has not been all that supportive.
If none of that fits together real well to you, join the club. Our forecasts of hog numbers and pork supplies have been very close to actual values for most of this year. USDA’s Hogs and Pigs reports for December, March and June have been much better than during the previous three years. In fact, they have been quite impressive in their predictive ability. I’m still concerned about the rather constant under-shooting of farrowing intentions relative to eventual actual farrowings but I have to think they will get that dialed in better as well. We think most analysts have been pretty good on the supply side. It’s easier to do that when we have accurate inventory data.
But getting demand dialed in has been a chore.
First, exports have run well ahead of what anyone expected at the beginning of the year. The year-on-year growth pace slowed sharply in June (carcass equivalent data released just this morning by Economic Research Service) to a gain of 4.2%. Mexico (+20%), South Korea (+29%), the Caribbean (+81%) and other markets (+23%) continue to drive U.S. exports higher. Shipments to China-Hong Kong fell 18% from their May level in June and those June shipments were 30% smaller than one year ago. Year-to-date, U.S. pork exports are still 12% larger than one year ago.
The year-on-year comparisons for monthly exports will likely be very good for July and August when those data are released at the beginning of September and October, respectively. The reason? Last year was terrible in those months. The remainder of the year could well see year-on-year declines but we still expect the year to be up near 10% — a number that was a pipe dream at the beginning of the 2017.
Why the growth? The big reason, I believe, is the decline of the U.S. dollar. Figure 1 shows the weekly chart for the International Commodity Exchange’s Dollar Index futures contract. This contract finished the week of Jan. 6 at 102.21. Save for a couple of rallies in March and April, it has fallen more or less steadily all year and closed last week at 93.42. Last week’s low of 92.39 is the lowest weekly low since April 2016 when the index hit 91.88. We are clearly back at the bottom of a two-plus year trading range even though U.S. equity markets are at record levels and the Fed has made good on promises to raise interest rates, two facts that should cause the dollar to at least hold its value. And the 91.88 level is important from a technical standpoint. Should DX close below that level, there is no technical support until DX gets to just under 80. I cannot paint for you a scenario that would take the dollar that low but technicians don’t need a fundamental scenario.
The other reason for strong pork and wholesale markets is a major pullback in wholesale to retail price spreads. Ron Plain touched on these a few weeks ago but his points bear repeating. Retail pork prices, except for three months last fall, have stayed near $3.75 per pound since early 2016. But the wholesale-retail spread has fallen from its record high $2.54 per pound in March 2015 to “just” $1.97 per pound in June. That is lowest level since the porcine epidemic diarrhea virus-driven wholesale price explosion of 2014 squeezed retail and restaurant margins severely. June’s spread would have been a record high as recently as December 2011 but now we see it as a “squeeze” — and one that has allowed both packers and producers to make nice profits in 2017.
The other noteworthy feature of Figure 2 is, of course, the growth in the farm-to-wholesale margin since 2013. The previous records of 1998 and 2010 pale in comparison to the levels of the past two years. Good margins — and the profits they drive — are, of course, a major reason that we are seeing the largest and quickest expansion of packing capacity in, for sure, memory and quite possibly in history. That expansion will almost certainly push margins lower eventually but for now things are still good in the packing sector.
So what about this fall and winter? I’m not sure why you ask given my track record this summer but we still look for pressure on cash hogs. We had third quarter national net price over all purchase methods at$79-$82. July is in the books at $89.54 but the first week of August averaged $85.55 and this week appears to be in the $80-$83 range right now. August futures have rallied from $79.48 to$83.40 in the past four sessions but an August average in the low $80s and September in the $70s will likely still fit our quarterly forecast. Our fourth quarter numbers are $62-$65 and fall futures have moved back to the top of that range over the past week. The October and December contracts appear very fairly priced at present. In fact, they may be high enough to take some coverage if you didn’t get that done back in July.
The first half of 2018 will see more of the same with, we think, national net prices in the upper $60s to lower $70s. Even with some hiccups, this year’s crops appear to be sufficient to keep costs low enough to leave nice profits for the best producers and keep average producers in the black.
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