The new highs in the market are surely being enjoyed. The smiles on cattlemen’s faces at the Denver Stock Show this week come just a little easier than they have in the past. Unless you’re still in an area affected by drought, the outlook is pretty solid.
In fact, the economists are telling us that we have a minimum of 4-5 years of super solid fundamentals. Supplies are expected to continue to tighten through at least 2015. While domestic beef demand hasn’t been great, it’s been surprisingly stable. In fact, from a demand standpoint, beef is outperforming pork and poultry, which have showed more weakness. Meanwhile, economic indicators continue to show an improving economy; though it appears to be slow growth, at least it is growth.
The changing of the age requirement for U.S. beef products going to Japan caused a sizable jump in exports, though it was factored in, and exports are projected to increase slightly moving forward. If the economy can grow in that 2.5-3% range, which sadly may be the new norm, we won’t have a lot of concern about current price levels. According to Jim Robb of the Livestock Marketing Information Center, the concern for substitution does not become a major concern unless GDP growth falls below 2%.
Robb is one of my favorite economists because he has the ability to mix the hard-core analytics with common sense and foresight. Paraphrasing a point he made, Robb says the U.S. isn’t a Third World economy that spends 30% or more on food. In the U.S., including alcohol and other beverages, we spend around 10% of our disposable income on food. We’re also creatures of habit; without some form of major shocks, we’re reluctant to change our eating habits. I suppose it’s a little like gasoline – we may not like the higher prices, but we Americans continue to drive our beloved cars, despite the fact that gasoline prices have doubled in the last decade.
Even higher record prices are projected for the cow-calf level, with a cull cow being worth $1,300 and a calf $1,000 or more. At those prices, it’s clear that things are on pretty solid footing. However, prices need to be higher, as production costs have nearly doubled since the early 1990s.
The big jump in production costs isn’t expected to continue at this pace, however, though we’ll continue to see some increase in general production costs as land values and general inflation increase. The market has adjusted to the ethanol shock and it is no longer expected to be driving major changes. And other feed costs are expected to moderate with the easing of drought conditions.
A downside to higher prices and increased market differentiation is that risk also increases. The trend lines are excellent but volatility isn’t going away. The industry needs the overall economy to grow, but growth will also allow interest rates to begin to rise. Even in these times of improving economics, it’s vitally important to factor in risk management.
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The new market dynamics confirm that we can’t and won’t ever be able to compete with pork and poultry on the basis of price; beef is a premium product, and we must produce a high-quality product in order to maintain market share.
That entails reducing variation and inconsistency, and improving eating quality of beef. Today’s Choice/Prime spread and the premiums that branded lines are attracting validate the notion that quality is what the market continues to seek. This is good news for producers who are producing the right kind of cattle, but the inverse of increasing price spreads is that it will be more difficult on poorer cattle as well. Some will survive competing in the low-tier market, at least until we move into the downside of the cattle cycle, but most will want to be competing on the upper end.
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