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12 Feb 2016

Dairy Market Blog

Dairy, Dairy Markets, FMP, Liquid Milk

Dairy Market Blog – 12th February, 2016

A prolonged downturn requiring joined up strategies to help farmers cope

The “perfect storm” of factors which have caused and now prolong the downturn in dairy markets have been well documented: surplus production especially in some parts of Europe, and stock accumulation, combined with a level of demand weakened by the absence of Russia, the lower buying activity and economic performance of China and lower oil revenues of many customer countries.

Many commentators and analysts have expressed increasingly gloomy forecasts of a long lived downturn which could take more than a year to turn around.

We have said it before, those commentators and analysts, no matter how expert in the sector, simply do not have insight into much more than a couple of months ahead.  While we need to recognise that demand and supply factors are currently stacked against the likelihood of an early recovery, no one can predict with certainty for all production regions the weather, the reactions of farmers to what is now global negative profitability and the measures enacted by various government and/or industry to support farmers, the geopolitical events which may cut or boost dairy buying, etc.

Meanwhile, this is further proof that, within the trend for volatility, prolonged low returns and prices can be a real obstacle for on-farm and sector thriving, never mind growth.

IFA is currently pressing stakeholders (Co-ops, Ornua, banks, Teagasc) and the Department of Agriculture for joined up support strategies.

This is partly about holding milk prices and providing milk price supports, especially in the challenging early spring.

But it is also about helping farmers with readily available, flexible and well-priced finance for cash flow, keenly priced inputs, favourable merchant credit terms, help with budgeting and viable cost cutting measures which will not undermine the sustainability of the farm or the herd for the longer term.  We believe this is the urgent job of the Dairy Forum, which needs to be reconvened rapidly.

Output growth: Europe continues strong

For the calendar year, total output growth for the main export regions is estimated at +1.4%.  This is not fundamentally out of line with current demand growth, but it follows from months of strong production growth and stock build up (see below).
Within this, Europe (EU28) is the main contributor with an estimated 2.1% increase for the year.  Recent trends have been for continued increases, with November output up 5% on the same month in the previous year.  It should be noted that this is relative to a period where expanding EU Member States would have been restraining output due to superlevy.

Europe is followed by the US with output growth of 1.2% (considerably lower than predicted, and with very low increase levels for the more recent months), and Australia at 2.2% (-3.8% for November).  Beyond the percentages, it is clear from the first graph below that Europe, the largest milk production region by far, accounts for sizeable additional volumes (over 3m tonnes extra).

New Zealand output is back 1.4% for the calendar year, but for the 2015/16 season June to December, it is down by 4.3%, with an official Fonterra forecast of a 6% fall for the full season, which could go to 7% according to Rabobank.  Either way, a lower decrease than was flagged earlier.

A milk price equivalent to 17c/l (19c/l including the Fonterra dividend) is leaving producers in serious loss making situations, and ANZ Bank are predicting that Fonterra may drop its price further.

World production

Source: Ornua

In the EU 28, the 2.1% output growth for the calendar year 2015 comes essentially from the Netherlands and Ireland, followed by the UK and Poland. Both big hitters (France and Germany) have remained almost static, although they have seen greater levels of production growth in the late months of 2015.

Obviously, most of the EU production growth has taken place in the last three quarters of the year, after quotas ended. What is interesting is the extent to which much of the growth came in the latter months – bearing in mind that these are increases on artificially depressed 2014 levels, caused by superlevy.

EU monthly milk output growth to November 2015

EU monthly growth

Source: EU MMO

France is now starting the new year about on par with last year’s level (-0.4% for week 4), but Germany is growing production more strongly (+3.4% for the same week).

The European output growth is reflecting levels of investment in additional stock and facilities for the post quota era in the various countries, especially in Germany, the UK and Ireland. This is also true of the Netherlands, and we understand that this investment would have been made in 2014 and 2015 in anticipation of new environmental legislation due this year which restricts farmers’ ability to expand their enterprises.

It is clear that, with animals and facilities in situ, in so far as they can continue producing extra milk at minimal additional costs, farmers faced with milk prices which do not cover costs in most cases will continue to press on to generate cash flow – but this is unsustainable for any length of time.

EU productionSource: Ornua

Disturbing use of “blame” language

Many hold the view that an important condition for market recovery will be a downturn in EU production – this is probably fair. Other international economic, output, weather and geopolitical factors will also play their part.

However, the use of language around Europe being “guilty” (and within Europe, Ireland!) for current low milk prices is disturbing, in that it oversimplifies matters, and plays into the hands of those who would like to see some form of quota return. Whatever help in rebalancing a closed internal market production management can provide, it is pretty useless when you are exposed to global commodity markets.

Stocks building up in APS and intervention

SMP markets have been the most challenging by far, and European SMP prices have fallen again down to intervention price or just below. This has resulted in renewed sales of product into intervention as well as APS.

In the period from October to end December 2015, 40,280t were sold into intervention, with Belgium the biggest contributor with over 16,000t, followed by Lithuania 8,900t, Poland 4,400t; then France and only then Ireland with 1,800t sold in. Finland, the UK, Germany and the Netherlands had also contributed some smaller quantities.

Early 2016 saw Ireland contribute considerably more. In the first 5 weeks we were second to Belgium (10,200t) with 3,900t, while the same other countries remained involved for smaller amounts. Total purchases into intervention speeded up considerably in 2016, with 29,800t to the 7th February.

SMP interventionSource: EU MMO

SMP APS and intervention

Traders of SMP can also avail of 2 different APS schemes: the “normal” one reintroduced in September 2014 after the Russian ban was first introduced, and the “enhanced” introduced as part of the EU €500m package, which offers operators double the subsidy, provided they leave the product in storage for 365 days.

In 2016, Ireland contributed nothing into either SMP APS schemes. In fact, it would seem intervention is now generally used in preference to APS, a sign of pessimism on medium term market trends by operators.

The Netherlands, Belgium and Spain, in that order, have contributed the most to the 365-day scheme. Contributions todate into that scheme amount to 9,183 t for 2015, and 7,084t in the first five weeks of 2016. As the scheme provides for 365 day storage, all of this can be considered stock at 7th Feb 2016.

The “normal” scheme has been utilised for over 18 months at this stage. 17,000t went in during 2014, another 43,000t during 2015, and in the first five weeks of 2016, just over 3,000t.

Total stock in APS (both schemes) amounted to 33,000t at the end of December 2015.

SMP apsSource: EU MMO

Hence, there is at this stage just over 70,000t of SMP in intervention, and possibly as much as 43,000t in APS.

With butter prices still well above intervention prices, the Private Storage scheme has been the only one used. With more butter coming out than going in through the latter half of 2015, stocks to year end had decreased.

Ireland contributed no butter to APS in the first five weeks of 2016. Other countries including the Netherlands, Germany, France and Belgium did, and the total intake for 2016 todate was 21,273t. This would suggest approximately 72,000t in APS stock as at 7th February.

Butter APSSource: EU MMO

Finally, on cheese, contributions since October 2015 and outgoings to end December, plus intake up to mid-January 2016 of approx 2,000t suggest current stock levels in APS of approximately 34,000t.

US and other stocks

Most recent available data on US stocks of butter and SMP suggest modest enough end December butter stocks at 69,000t – butter prices and demand are still holding up well in the US – and SMP stocks at the end of November of 91,000t.

Commercial stocks are not reported on, so there is no way of knowing for certain how much of an overhang there is beyond the institutional stocks reported on above.

Fonterra have been reporting recently that they estimated stocks of powder in China to be half their level of last March, which is a positive.

EU dairy prices

EU prices have continued to weaken, in the wake of the 2nd February 7.4% fall in GDT prices. In very recent times, butter quotes – which had been holding up relatively well – have been easing, though remaining above intervention equivalent. SMP is at or below intervention in many Member States.

EU commodity prices 7th FebBased on EU MMO data

Returns from current EU average commodity prices, based on an approximately representative Irish product mix, would be just over 27c/l gross (i.e. before processing costs are netted) – see table below.

EU market returns 7th Feb 2016Based on: EU MMO data

Ornua PPI equivalent better than average EU returns

 

Better than average EU returns for at least some of the Irish product mix mean the Ornua PPI reflects a slightly higher price equivalent. It should also be noted that the actual January PPI, at 85.7 points, is a point above the forecast previously made for last month. It is equivalent, according to Ornua’s own calculation, to a farm gate price of 24.2c/l including VAT.

Ornua

Some positives on demand

Demand has taken a beating since the heydays of 2014: the Russian ban on EU food imports following from EU sanctions on Russia; China returning to more “normal” buying trends, and then its economy appearing to falter, and oil prices falling by over 70% in the space of just over a year, reducing the oil revenues of many countries which are normally good dairy customers (Venezuela, Nigeria, Algeria…).

But there have been very positive developments on the demand side, too!

China’s imports of UHT milk and cream, and infant formulae have increased by between 10% and 30%. Hard and semi hard cheese imports, from very low levels, have also increased substantially.

Following the January nuclear deal, years of UN sanctions against Iran came to an end. Iran, a country of 80 m people, is now back on the market and Fonterra expects to benefit from established market links especially for butter.

Generally, EU exports have risen through 2015, buoyed up by the weak Euro. Butter exports were up 10%, SMP 6%, and while cheese was slightly down (-1%) for the year to November, it was up significantly for the last quarter.

EU exports of butter to the US have more than doubled (+115%), while WMP is up over 40% and cheese exports up by a quarter. Japan, Mexico and Egypt have all increased their purchases of EU dairy products in double digits.

So, while there is still an overhang of surplus output + stocks, demand remains very active, and this will help rebalance markets in time.

Meanwhile, it is vital that, through the Dairy Forum, action by co-ops, banks and Teagasc be co-ordinated to support Irish dairy farmers through a turbulent few months for cash flow, and that lessons be learned from this year’s difficulties to help farmers manage extremely volatile incomes in the longer term.

CL/IFA/12th February, 2016

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