Part V in a series of changing corn environment.
The corn market is proving to be as volatile as predicted. With the impact of the Midwest floods less than feared, Omaha cash corn slumped to $5.30/bu. at press time. However, the corn crop is behind schedule, making an early frost the concern.
Such volatility means the timing of corn contracts by cattle feeders will be a huge factor. The same applies to ranchers intending to market 2008 calves as calf-feds; they should price their corn needs well before the threat of frost hits the markets.
With respect to corn price, I tend to watch the nearby futures contract prices, as well as the December contract prices for the current year and the next one or two years. December contract month prices tend to reflect harvest-time prices. Figure 1 is the corn-price chart I update monthly and share with my clients. In all cases, when looking at futures prices as a price watcher, focus on the last day's settlement prices.
Many analysts suggest we could feed $5-$6/bu. corn to our 2008 calf-feds; $5 corn translates into total feedlot cost of gain (COG) in the $90s, while $6 corn means $100+ COG. This is total COG, not just feed COG.
I consider the live-cattle futures markets an indicator of future cash slaughter-cattle markets. In general, slaughter-cattle futures prices are quite strong relative to history but are currently down a little from mid-June.
The July 1 USDA All-Cattle Inventory numbers show the U.S. cowherd down about 1% from July 2007. The key point is total numbers aren't climbing as projected in 2005-06 when the cattle cycle was alive and well. In fact, some farmers are liquidating beef herds to concentrate on farming - just as in the 1970s.
Cattle cycle is broken
The traditional cattle cycle is broken and I see nothing the next few years to stimulate expansion. Higher per-cow profits (not just higher calf prices) are needed, and that's unlikely to happen in the biofuels era.
Lower U.S. cattle numbers imply less beef volume, which is positive for retail and export prices. The higher cash slaughter-cattle prices in 2009 suggested by current futures prices may well be in the cards as export demand is strong and growing, and domestic demand is holding up.
Higher slaughter-cattle prices will help the beef industry transition into the biofuels era by returning profitability to the cattle-feeding sector, where overcapacity of bunk space has forced a tremendous loss of equity.
As it is, I expect farmer-feeders to be the first to cease operations in response to this lack of feeding profitability. In fact, some reports from South Dakota suggest this is underway. Such operators have considerably less overhead, making temporary suspension easier.
I recommend ranchers check feeder-cattle futures prices weekly on the Internet - every Wednesday, for instance. I also pull off the daily price charts to compare the current week to previous weeks. If you can't explain the change in feeder-cattle prices over the last few weeks, spend a little time on the Internet researching it. It's important for ranchers to be price watchers.
I use the nearby chart as a proxy for current market conditions, as it should be the closest to the current week's salebarn prices; however, the week's salebarn prices and the nearby futures market's price won't be the same. The difference is called the nearby basis, and is calculated as: basis = cash price minus the futures price.
Other feeder-cattle contracts I consider critical are the October or November contracts for weaning time, and the January contract for marketing backgrounded calves. In addition, the May contract month is good for ranchers considering running grass cattle, while the September contract is useful for marketing yearlings off grass. The basis for any given futures contract month and your general region is available at www.beefbasis.com.
Figure 3 presents the feeder-cattle prices for July 24, 2008. Feeder-cattle futures prices weakened substantially in the first quarter, but recovered in early summer. The increases were primarily driven by reduced corn prices, as well as live-cattle futures brightened by prospects for reopening of the Korean market.
Food for thought
The feeder-calf market is caught in the middle of high corn prices generating high feedlot COG on one hand, and strong slaughter-cattle prices on the other. Increasing COG pressures the buy/sell margins of feeder cattle and feeder calves. The good news is the narrowing of buy/sell margins results from rising slaughter-cattle prices and, to a lesser extent, decreasing feeder-cattle prices. So, let me plant a seed for thought.
What if we had $113/cwt. slaughter cattle, $113/cwt. feeder cattle and $113/cwt. feeder calves? This would generate buy/sell margins of zero. No more marketing losses from the initial weight going into backgrounding or cattle-feeding programs.
I believe the beef industry could live with these prices. The pressure on ranchers would be to keep the breakeven weaned-calf price below $113/cwt. With $100 feedlot COG, profit would return to the feeding sector. With a zero buy/sell margin, there would be no loss on the original weight of the feeders going into the feedlot; a $13/cwt. profit margin on 500 lbs. of feedlot gain would net the cattle feeder $65/head.
Again, with a zero buy/sell margin, there would be no dollar loss on the weaned pounds on the calves going into calf-grower programs. Ranchers could add weight to weaned calves with forage, as long as COG is under $100 (i.e., cheaper than feedlots could do it), which is very doable.
At the same time ranchers are adding value to their calves, available forage supplies at the ranch might dictate reducing cow numbers. Fewer cows mean calves could graze longer, producing just as many, or even more, pounds. In turn, the resulting reduction in U.S. total cow numbers would strengthen slaughter prices; with zero buy/sell margins, that would reflect back to feeder cattle and calves.
Currently, buy/sell margins are narrowing, and I project further narrowing during the marketing of 2008 calves in 2008 backgrounding programs and into 2008 calf-fed programs.
The key to making a zero buy/sell market work is very strong slaughter cattle prices - like those reflected in the futures market. It may take the U.S. beef industry into the 2009 calf crop before we get slaughter-cattle cash prices there, but October 2009 live-cattle futures were there on July 24.
Harlan Hughes is a North Dakota State University professor emeritus based in Laramie, WY. Reach him at 701-238-9607 or [email protected].