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29 Nov 2017

Dairy Market Blog

Dairy, Dairy Markets, FMP, Liquid Milk, Prices

What outlook for 2018?

2017 will go down as a good year for Irish dairy farmers – albeit one which was badly needed to catch up with the 2-3 previous years which took their toll on cash flow and put farmers to the pin of their collars to meet financial commitments.

Assuming volumes end the year up 7-8%, and prices average 33% above last year, the overall output value of milk for the country will have increased by  around 43%.  Early indications from Teagasc suggest the average dairy farm income for 2017 before the remuneration of the farmer’s own labour could be around €90,000.  Of course, this has to be put in the context of the two very difficult preceding years.

And now that the year is almost over, it is fair to ask – what will the dairy sector look like in 2018?  Where will dairy and milk prices end up?  Crucial in this is the recovering global milk production, the continuing strong positive trends on demand and of course the looming presence of a 380,000t stock of SMP, bought into intervention during the crisis period of 2015/16, and in 2017.

Production recovering globally

Stronger prices in all milk producing regions have resulted in a return to output growth within the EU, including France and Germany.  In New Zealand after a wet spring reduced August and September supplies, the peak month of October saw a good recovery – but now moisture deficit again challenges pasture growth.

So in the EU, September milk production was up 3.7%, and this has continued into the following month.  October milk production is well up in most of the main producing countries.  France output increased 5.5%, Germany’s by 4.8%, with cull cow numbers in Germany down 13.3% for the month of October.  In the UK, where cow slaughters were down 6.2% for the month and 3.8% for 2017 todate, production was up 4.2% in October.  Belgian production was up a massive 8.23% for the same month, while the Danish milk output was up 5.3%.

In New Zealand, the wet spring depressed early season production, but September output was back up over 2%, and the October collections by Fonterra were up 2.3%.  However, FCStone international now report the beginnings of a severe moisture deficit, affecting the South Island more than the North Island, and potentially challenging production over the coming weeks.

In the US, production continues to grow into October, albeit at a slightly slower 1.4%, with California continuing to lose ground to Wisconsin.

 

Source: USDEC

Demand: Oil prices up and China imports continue to climb

There is a positive correlation between oil prices and dairy demand, because so many of our Middle Eastern and African customers rely on their oil export earnings to afford food purchases, dairy included.

At around US$63/barrel, the Brent Crude Oil price has been firming since June/July, and is around what many in the dairy industry had flagged as the ideal balance between a high price which increases energy costs for the sector, and too low a price which challenges the export revenues of importing nations and the relative affordability of food imports for them.

Source: Financial Times

In addition, dairy import demand for the last year or so has increased significantly in Latin America, Asia and China in particular.

In Latin America, cheese and SMP were the most noticeably increased imports.  They account for 42% of imports and were up a combined 15% for the 12 months to July.
In Asia outside of China, imports of SMP were also well up, as were fluid milk, fresh dairy products and cheese – combined, these were up 10% over the period.
Chinese imports increased a massive 34% in volume in September, and by 12% for the 12 months to September.  Whole milk powder, infant formula and SMP experienced the strongest import growth, but all categories of dairy product imports were up.

The MEA regions, on the other hand, have seen demand ease somewhat, down 2% for the 12 months to July.  Fluid milk, SMP and fresh dairy were however collectively up 10%, but this was offset by a fall in butter, cheese and infant formula imports.  It is not unreasonable to expect that increased oil prices since those statistics were compiled may boost this in the coming months.

Source:  Fonterra

All eyes on SMP intervention

SMP intervention has been opened and kept open at full or near full price almost full time between the start of the Russian embargo of September 2014 and the autumn of 2016.  With prices weakening below buy-in levels during 2017, an additional 30,647t, none of which from Ireland, were bought in when theoretically this should not have been necessary (milk prices were rising, largely supported by sky-rocketing butterfat prices).  The upshot is that we now have over 400,000t of SMP intervened over the period, of which 376,000t are in stock and overhanging the market.

There are a few things to know about this stock.  Some of it, bought in 2015, is over 2 years old.  There has been a lot of commentary around how it is losing value, is “degrading”, is turning from “food grade” to “feed grade” – all of which is often used to justify why it can only be bought at a significant discount, and all of which is leveraged by buyers who want to pay as little as possible for fresh product.

However, we have said this before in this blog, to be accepted into intervention, SMP must be of top quality standards.  Intervention stores must also prove they are operated to the highest standards to preserve the product in the very best conditions.  SMP is fat free, and protein is far slower to degrade than fat – WMP would degrade a great deal faster.  Objectively, the 2-year-old powder in intervention stocks currently remains a top-quality food grade product.

The issue is not standards, whatever many in industry will say.  The issue is supply and demand, and price expectations.

In 2017, the EU produced 10% less SMP than in the previous year, and exported 43% more – no doubt because lower prices made it easier to sell.  However, this means that the current fresh SMP market is, if anything, undersupplied.  Were it not for the overhanging stock in intervention, chances are that SMP would currently trade, based on low fresh supply and strong demand, somewhere above €2000/t, instead of €1520/t – the current average EU market price.

But buyers will always put a premium on “fresh” product over older, even if the quality is indistinguishable.  And in a low-priced market, the buyer gets what the buyer wants: but just because we are in a buyer’s market does not excuse the badmouthing of what objectively remains a top quality product.

Another issue with SMP intervention is the policy to be pursued in 2018 with regards to buying-in without a “reserve”.  The legal intervention regime provides that the first 109,000t purchased after prices falling below €1698/t from 1st March triggers buying in are purchased at the same fixed price.  A tender system follows, which can depress the price below that.  This time, the EU Commission, anxious to avoid further accumulation, are proposing to have no reserve, i.e. to introduce the tendering process from the get go.

This is worrying to IFA, as it would send a very negative signal to buyers as to the value of fresh as well as intervention SMP, and could further postpone a recovery in prices.  It could also set a worrying precedent for the future CAP.  We have expressed our views on this matter strongly to the Commissioner and the Minister for Agriculture and their respective officials.  We will know very soon (next Monday) whether the EU Council of Agriculture Ministers agrees with this policy or share our concern.

Based on EU MMO data

Dairy price trend easing globally

While EU butter prices have eased nearly €2000 from peak, they remain at historically high levels, apparently settling down around €5000/t.

The last GDT auction (the 200th, held on 21st November), saw prices of all products decrease, some significantly, including butter which fell 5.9%.  SMP is also continuing to slip, with a 6.5% fall.

It is clear from GDT but also from other international price indices that the weak SMP prices are reflected (or reflect!) protein price weaknesses more generally.  Casein, WMP, whey powder prices are easing internationally.

Source: GDT

European spot prices this week reflected some further slippage in butter and SMP prices – which looked like settling in the previous week or two – but a very slight firming of whey powder prices – albeit at very low levels below €600/t.

Source: FCStone International

Current average dairy product prices are slightly higher than spots – unsurprisingly in an easing market – and there even appears a small “bounce” in butter prices which in the most recent report averaged at €5330/t – up €210/t over two weeks.  With EU butter production down 4.6% in 12 months ending in September, the relative shortage continues, so that prices are not likely to fall dramatically in the short term at least.

The small butter bounce is not enough however to avoid a disimprovement in returns.  Gross returns for a representative Irish product mix, based on the average prices reported by the EU MMO, would amount to 36.36c/l before the deduction of processing costs.

Based on EU MMO data

Co-ops can and must guarantee they will hold milk prices at least till Spring 2018

During 2017, co-ops paid sizeable milk price increases, and they had undoubtedly supported milk prices during 2016.  However, until the last couple of months, they have mostly undershot the net EU returns (gross returns minus a 5c/l notional processing cost) in the average milk price paid to farmers as measured monthly by the Farmers’ Journal Milk League.

It is clear that sizeable additional milk volumes and strong export performances at higher prices have helped co-ops rebuild their balance sheets in 2017. And while average and spot prices are easing, contracts signed over the last number of months were at higher prices, which are still benefiting co-ops.

Irish farmgate milk prices increased by 52%, or 12 cents per litre, in the last 15 months, but this was after over two years of falling prices, of which 20 months below 30c/l.  Farmers were 11 months, from October 15 to August 16 with prices below 25c/l.  2017 was a good year for milk producers, but their increased turnover has served to catch up with cash flow shortages and other financial commitments.  From May 2014 to July 2016, milk prices had fallen steadily by a total of 14.6c.

In this context, even allowing for the weaker outlook for 2018, it is crucial that co-ops would hold milk prices at the very least until next spring as they can afford to.

It would also be important for co-op boards to examine the co-op’s financial situation in detail, and seriously consider the option of end of year bonuses for their fellow-suppliers.

 

CL/IFA/29th November, 2017

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