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SW Wisconsin | End of Quarter Comments From "Third Street Ag Investments": My friends Robert Otter and Chad Burlet, founders of Third Street Ag Investments, and traders of an award winning discretionary Ag Fund, released their monthly commentary over the weekend. I thought the commentary by Chad was extremely on-point and worth passing along. There's been a lot of producers extremely bulled up for the past few months, but as always, I think it's important to read and understand what others in the trade are looking at and considering. I appreciate Chad and Robert allowing me to pass along their information. If you are looking for some good folks that like to invest in agriculture, make sure you check them out.
As the fall harvest starts in the U.S. and spring planting starts in Brazil, we see this as an ideal time to step back and take a long term view of our markets.
Two years ago we exited a four-year period of higher prices that was brought on by a series of crop problems and a strong jump in world demand. The U.S., Russia, Europe, Australia, and South America all suffered one or more crop disasters between 2010 and 2014. At the same time, the utilization of renewable fuels swept the globe. In addition, the improved dietary preferences of the Asian middle class were being met by animals that were being fed a much more protein-rich compound feed. World corn consumption grew by 22% from 2010-11 to 2016-17, and soybean use grew by a stunning 34%.
The production response was equally impressive. Through a combination of acreage and yield increases the world’s farmers managed to not only meet that demand explosion but to also build record world carryouts in corn, wheat, and soybeans. This month’s combined world carryout for those three commodities was 579 million metric tons (MMT), up 58% from four years ago. All of that while weathering a half-dozen major crop disasters.
So where do we go from here? In a word, “lower.” We find ourselves wondering what demand can do for an encore. We feel that the rapid expansion of renewable fuels is behind us. Blend rates are peaking, new markets are not being found and environmental science has become very conflicted as to the net benefits of renewables. Likewise, rapid dietary advances and protein introductions in Asia are slowing. We see continued demand growth, but not at the 2011 – 2017 rate. The one ray of hope will be if China does follow through and implement a national ethanol mandate in 2020.
Conversely, production advances show no signs of abating. Sophisticated farmers continue to find ways to improve plant populations, as well as the timing and application of fertilizers, insecticides and other chemicals. However, the most notable advances appear to have come in seed technology. Soybean pod weights in particular, have stair-stepped higher with each new generation of seed. Key areas of Iowa and Illinois were very dry this year, but farmers are reporting yields that are their second or third best ever. Twenty years ago these weather conditions would have resulted in yields that were half of what we’re now seeing.
Overseas, Brazil and Russia remain the headliners. Brazil has been making public and private investments in its ports for more than 30 years, and the past five years have brought a very rapid expansion in the north and northeast. Now attention is focused on the interior infrastructure to bring supplies to those export elevators. Even at today’s lower prices, new land is brought into production every year. A new acre in Brazil is almost equivalent to two acres anywhere else, as farmers plant full season soybeans and safrinha corn almost every year.
Russia, to some extent, is following the Brazil model: first prioritizing their ports and then following up with their interior infrastructure. The Russian Agricultural Minister just announced that their 2017 grains production was 127 MMT, a new record. The previous record was set in 1978 when yields were barely half of this year’s, so their potential for expansion is huge. While added acres in Brazil are always new acres, added acres in Russia are often old acres returning to production.
Like may inside the trade, we believe that a large reduction in U.S. acres is on the horizon. The USDA’s baseline budget shows a reduction of five million acres in the eight major crops. We believe that estimate is understated. Assuming the correct reduction is closer to ten million acres, what price structure will it take to idle that much land in the U.S.? With production costs already coming down for next spring and new crop futures at $4 for corn, $4.90 for wheat and nearly $10 soybeans, we feel that price drops of 15% will be needed. It will be a financially difficult time in rural America and land prices will suffer.
As a closing note, we want to mention that major changes underway in China may create a trading opportunity. China has taken several steps to reduce their massive corn stocks. They have eliminated the price support program for corn and they have auctioned off more than 36 MMT of government corn stocks. Despite that, their domestic prices have moved steadily higher for the past seven months. They are also rapidly expanding their corn processing capacity with 21 MMT of capacity under construction. If they do go to a national E10 mandate they will need to add more than twice that much capacity. In addition, some provinces are paying a financial incentive to get producers to switch from corn to soybeans. If all of those programs come together they will need to be a major importer of corn and domestic DDG will be substituted for soybean meal in feed rations. Under that scenario the ratio of soybean prices to corn prices will need to adjust for the rest of the world. The nearby futures ratio, currently above 2.7:1, has rarely traded below 2.6:1 this year. In the China scenario described above, that ratio will struggle to reach 2.5:1 and could return to 2.3:1. | |
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Interesting Read From Van Trump this morning
