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29 Sep 2016

Dairy Market Blog

Dairy, Dairy Markets, FMP, Liquid Milk

Dairy recovery beyond question – but milk prices have a long way to go

Rapidly falling milk supplies and reasonably sustained demand, including some significant increases from China, have underpinned a recovery the first signs of which were evident 5 months ago.

No one now doubts that dairy markets are on the way back up – though of course no-one can guarantee for how long this will last.

Much of the production decrease is structural, however, underpinned by major increases in cow slaughters.  Also, milk prices remain very far from what most EU farmers need just to cover their costs (never mind actually paying themselves!) – they have an extremely long way to go before restoring the majority of EU dairy farmers to positive margins.

The French Institut de l’Elevage, which fulfils some of the functions of Teagasc, calculates that, currenty, farmers across all French dairy regions need between €390 and €400 per 1,000 l to cover costs.  The recent agreement between protesting farmers and private milk purchaser Lactalis was that the latter would pay €290/1,000 l to year end so as to average out €275/1,000l for 2016 – a full €125/1,000l below breakeven – to be clear, that is 12.5c/l below production costs.

German farmers need around 35-36c/kg according to EU’s FADN reports for 2014, with Dutch farmers needing something similar.

Current milk prices reported by LTO for July milk are between 20 and 23 c/kg for Germany, and 20 to 24c/kg in the Netherlands –

So milk prices have a very long way to go indeed before the most dynamic dairy farmers in Europe are incentivised by profitability to increase production further – bearing in mind that all have now suffered well in excess of 18 months at prices below costs.

Production falls

EU production for the January to July period was up 2.6% (see graph below).  However, it fell in June for the first time below the same month last year, and that trend continued in July, with output 1.4% below July 15.

EU milk output

Source: EU MMO

German milk production, which represents around 22% of total EU output, has fallen below 2015 levels as early as last April, and the most recent weekly data available for the first week in September, it was 3.4% below the same week last year.

german milk supplies

Source: ZMB

French production – again a significant heavy weight in EU milk production, with 17% of total EU output  – was also well back, down almost 1% for July, and down by 5 and 7% in the first two weeks of September.

French milk supplies

Source: FranceAgriMer

Another significant producer, the UK, with 10% of total EU output, has seen drastic falls in production in the last few months, with output below previous year since March/April.  The most recent data available, for the fortnight ending 17th September, production was back 7.7% on previous year, and 4.4% down on the average of the last 3 years.  Monthly UK milk production for July was back 8.3% below July 2015 levels.

UK milk supplies

Source: AHDB Dairy

Another important contributor to EU milk supplies is Poland, accounting for around 7%, and in Poland too, milk output fell in June to levels below year prior.  June milk output was 1.7% down, with July also lower.

polish milk supplies

Source: EU MMO

New Zealand output was also back in August, by 3%, after a 1% increase in July.  Fonterra commented that their 12 month production to July 2016 was down 2% compared to the same period last year, and have forecast overall NZ output to be back 3% for the 2016/17 season.

NZ milk supplies

Source: DCANZ via Dairy Markets

Australian milk production has been affected by the impact of lower milk prices. Dairy Australia reported that production in July – the first month in the 2016/17 production season – was down -10.3% compared to the same month last year.  Production for the 12 months to July was down -3% compared to the same period the previous year. Victoria, the largest milk producing state was down 11.2% in July 2016 compared with July 2015. All other states saw a decline on the year except Western Australia (up 1.4%).

Australian milk supplies

Source: Dairy Australia

In Brazil, production all but collapsed in 2016, down 10.3% for June.  This trend had started from the Spring of 2015, as is evident in the graph below.  Output for the first half of 2016 was down 6.9% compared to an already depressed 2015.

Brazillian milk supplies

Source: CLAL

Weather and economic challenges explain the downturn on Argentinian as well as Brazilian farms, with Rabobank expecting no production growth before 2017 at the earliest.

Argentinian milk supplies

Source: AHDB Dairy

The USA are the exception to the production moderation rule.  August production was up 1.9%, after 5 months of uninterrupted increases.  US demand, especially for cheese and butter, has risen significantly, off the back of improved economic results and better consumer sentiment and spending.

This is just as well for the rest of the dairy world: the strong US$ is making their products less competitive on the world market, and therefore the US have been less of a force to contend with for Ireland and other global exporters.

However, the expansionary trend is very clear, and the US will continue to be a significant competitor long term.

US milk supplies

Source: USDA AMS

Output downturn is structural, underpinned by low profitability and increased cow slaughters

As stated in introduction, milk prices in Europe have a very long way to go before they allow farmers to cover costs, never mind move into positive margin territory.  It is therefore unlikely that  production will increase in any way significantly in the short to medium term even with the current milk price trends.

Increased cow slaughter figures also underpin the decreased output.

Ireland’s cow slaughters for the year to 18th September were up 5.6% on the same period last year.

This trend is reflected in all the main dairy producing countries in the EU  – though it should be noted that the slaughter statistics do not differentiate between dairy and beef cows.  In the first half of 2016, cow slaughters were 7.8% higher than in the same period in 2015.  This trend has been rising, with June cow slaughters 9.5% higher than June 2015.

EU cow slaughters

Source of data: Eurostat

In New Zealand,  cow slaughters had increased in 2014/15 and into May, though in more recent months they have eased considerably.  Culls were down 4% by early Sept 06, with a 6.9% decrease in the North Island balanced out by a 1.5% increase in culls in the South Island.

NZ cow slaughters

Source: FCStone

The impact of the EU Milk Production Reduction scheme?

52,101 farmers from 27 member states (no interest in Greece) applied for the EU milk production reduction scheme, for a total amount of 1.06m tonnes of milk.  This means that the scheme is 98.9% fully subscribed, and as it is not oversubscribed (though only just!) there will be no adjustment to applicants’ reduction commitments.

In Ireland, 4,447 farmers applied for a total of 74,225 tonnes of milk.  That’s an average per farm of around 17 tonnes, compared with the EU average of 20 tonnes per applicant farm.

Whatever about the rest of Europe, it is impossible to tell in Ireland whether farmers will go out of their way to reduce production for the scheme, or whether they applied because their production was going to be down anyway.

It is fair to say, however that the scheme has acted as a signal to buyers and commentators, even making an appearance in the 3rd Dairy Quarterly Report issued today by Rabobank (see below).

It is also probably fair to say that it provided a gentle nudge to milk purchasers to increase prices perhaps a little more and a little faster than would otherwise have happened.

While the French government topped up the payment by 10c/l for the first 5% of reduction to further encourage a slowdown without increasing cow slaughters too much, Friesland Campina also added 10c/l, but for a very different purpose: they were trying to reduce phosphorus production, which is a major problem in the Netherlands.

Demand: Chinese imports up 27% for the first 8 months of 2016!

Massive increases in Chinese imports were one of the main factors which sustained strong prices in 2013 and 2014.  China’s quasi cessation of dairy imports in 2014/15 was also part of what led to the slump.

China has been back in 2016 as a major importer, and we have been flagging this since the early part of the year.

GTIS statistics for the first 8 months of the year (see below) showed a 27.4% increase in volume of dairy imports, with a 13.8% increase in value.

Of particular note are the massive increase in milk and cream, yoghurt/buttermilk, condensed milk, butter and cheese (see table below).

Chinese imports

Source: CLAL

Prices continue to improve globally

EU dairy prices have continued to increase steadily since May, with whey powder and butter rising most strongly of all (70% and 56.5% respectively over the period).

EU dairy price graph

Based on EU MMO data

EU dairy price table

Based on EU MMO data

Using those EU average market prices, and assuming a representative Irish product mix, we estimate that returns have increased by just about 10c/l in the last five months since early May.

The table below shows that the gross return for those combined commodities, before processing costs, amounts to just over 35c/l.  Whether one allows 5c/l or 6.5c/l for processing costs, it is clear that a continuation of those levels of prices would justify a farmer milk price of between 30 and 32.5c/l including VAT.

EU dairy returns

Based on data from EU MMO

And because price trends are never linear for very long, it is worth noting that, this week, German Kempten butter prices (German official spot quotes), which had exceeded €4,000 for the last few weeks, have eased back to €4,225.

It is worth noting that SMP, which had been very slow to rise, has now broken through the €2,000 ceiling for spot quotes from Germany, France and the Netherlands.

Those average SMP/butter price represent a milk price equivalent, after deducting a 5c/l processing cost, of 33.45c/l including VAT.

EU dairy spot quotes

Source: FCStone

Farm gate milk prices on the up, too

Fonterra have last week reviewed their forecast milk price for the second time in two months, up another 50 cents to NZ$5.25/kg MS, which together with dividend comes to a forecast payout of NZ$5.75-5.85/kg MS.  It is likely that these will be reviewed further later in the season if the current GDT and global market price trend continues.

Friesland Campina have increased their October milk price by 3c/kg (2.91c/l), to 29.25c/kg (28.4c/l) for October.

In the UK, Dairy Crest, First Milk and Arla Foods have also been increasing milk prices again for October, by between 1 and 2 pence per litre (1.2 to 2.3c/l approx).

Elsewhere in Europe, the Arla price for October will rise 2c/kg (1.94c/l).

And in conclusion… Rabobank’s  third Dairy Quarterly report for 2016 out todayRabo logo

It’s always important to keep some perspective, and while Rabobank agree that the recovery is underway, they also analyse it as being mainly driven by  supplies falling much more and faster than expected, especially in Europe, due to low prices and poor weather everywhere.

They expect exportable surpluses to fall back to the lowest level since the financial crisis in the second half of 2016 with more fall back expected in 2017 – which should help underpin prices.

They expect (as we do) that while prices are recovering, farmers will continue to struggle with lower fodder availability and low/negative margins.  They also expect the EU reduction scheme to impact volumes and slow production pick up into 2017.

On the demand side, they expect the Chinese import increases to continue, but more in response to lower production in China than due to increased domestic demand.

Rabobank finally warns about still very high levels of dairy stocks around the world – including, but not exclusively, intervention SMP in Europe – which they put at 6.7m tonnes above “normal” levels.

Rabo regional analysis

Source: Rabobank Dairy Quarterly Report

… and IFCN reminds us that the long term outlook remains positive

IFCN, the network of international dairy researchers, predict that global dairy consumption over the next 10 years will grow by about 2.3% annually.  This is not massively different from the previous decade (2.4% annually on average), but they expect this to involve significantly higher volumes.

The table below sums up the conclusions of IFCN – while they are a very credible network of researchers, forecasts going so far ahead should always be taken with some caution.

IFCN table

Source: IFCN Network

CL/IFA/29th September, 2016Cow

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