USDA forecasts more milk from U.S. dairies. World prices decline as increased production in other countries leads co-ops to cut prices to remain competitive.
Dairy prices certainly do not look good. Cheese and butter prices gave the impression a number of times that a bottom was being established. However, these were false impressions. Slower disappearance and continued heavy production keep supply greater than demand. Emotions are running high as profitability is virtually non-existent. Yet, milk production continues to outpace last year. According to estimates by the USDA, this should continue for the rest of the year.
USDAâ€™s latest World Agricultural Supply and Demand report released last week indicates increased milk production and lower prices. The recent estimate shows 2012 milk production at 201.9 billion pounds, up 800 million pounds for the April estimate. If realized, this would be an increase of 5.7 billion pounds over the previous year, the largest year-over-year increase since 2005.
USDA lowered milk and product prices for the year. The latest All-Milk price was reduced 35 cents from the April estimate to a range of $16.90-$17.40 for 2012. Class III price was lowered 30 cents to $15.80-$16.30.Â Class IV was reduced 85 cents to the range of $14.50-$15.10. The cheese price was reduced 3 1/2 cents from April estimate to an average $1.58 for the year. The butter price declined 6 1/2 cents to average $1.46, and the nonfat dry milk price declined 6 1/2 cents to $1.2550. The dry whey price was raised a penny to an average of 57.5 cents per pound.
It seems like weather is virtually the only item that can reduce milk production. High feed prices are not causing farmers to slow production. In fact, the opposite is true as lower milk prices spur greater production in the effort to increase cash flow. Culling becomes more aggressive as farmers eliminate lower-producing animals and quickly replace them with heifers that have a greater potential.
When milk prices do improve, it is the result of increased consumer demand or adverse weather. Weather over the past six months has been very mild and conducive to milk production. Consumer demand leaves something to be desired with disposable income tighter. Consumer buying habits have changed. Although cheese consumption is slightly higher than last year, butter demand has slowed. Heavy manufacturing schedules keep supply readily available, making buyers less concerned over potential market tightness.
U.S. farmers are not the only ones facing reduced milk prices and difficult financial times. World prices are lower also, in part by increased production in other countries. Production in Australia increased 4.1% over the past 10 months to the highest production in six years. Europeâ€™s production is running 2-3% ahead of last year. Production is New Zealand is expected to be up 6% over 2011, which was already up 10% over 2010. This has resulted in lower prices in many countries as co-ops cut prices to remain competitive. This has reduced farm profitability significantly. This has been reflected the past few Global Dairy Trade auctions through weaker prices.
Hedging a profitable price has become difficult or non-existent. The only plausible way of doing it now is to initiate a fence position with the purchase of puts and the selling of calls a dollar apart. This would at least provide a floor from prices declining further while allowing for the potential of capturing a dollar to the upside if prices were to increase. You want to be sure you are not selling the call option side of this strategy if they are below the cost of production. Hindsight is always 20/20, and a lot of price opportunity has been given up since the beginning of the year. But rather than blaming the dairy industry for lower prices, continue to look for market opportunities in the future.