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GDT #202: last auction of the year

The last auction of the year and this will be a relatively brief commentary as I have a hectic few days ahead and I have less to say!!

Ahead of the last auction I said:

“I expect another flattish to soft auction but I am hoping for something positive”

The outcome was broadly in line with that expectation although you needed to look beyond the headline. The powders did better than I expected and butter did worse than futures markets would have suggested. But, in total, the auction was solid to the extent that it held the ground in the face of what was, as expected, lower demand from China.

Grant Rowan (and his daughter Madeleine) updated the MyFarm forecasts and came out at $6.40/kgMS, which was precisely where Fonterra moved to later in the week. The futures market has also traded into line with this (last trade $6.39/kgMS). Grant and Madeleine also produced the following chart which I think is a good summary of the current situation.

There is quite a lot of information on the chart but the orange (solid) line shows the current NZD weighted auction price and the blue line (solid) shows the current spot milk price. One way of thinking about this is that the dotted blue line (4 month moving average) is the current predictor of payout ($6.40/kgMS) ,and the last point on the solid blue line a good predictor of where next season’s price would be if nothing else changed. ($6.20/kg MS)

Although relatively stable there is a general downward trend in the NZD auction price and therefore NZ $/kg milk price since the second auction in May 2017.

Global Observations:

The McCully Report from Rice dairies is one of the more comprehensive reports on global dairy.

Key messages from that report seem to be:

  • US production growth rate (+1.4%) is likely to fade slightly as margins are squeezed by softer prices and rising non-feed costs. Herd numbers have stopped expanding.
  • European production remains strong (Sept production +4.3%) and with weak 2016 comparisons, McCully is forecasting Q4 growth of 5% YoY. Despite this, high prices are being paid by dairy companies (supported by strong retail demand for milk, butter and cheese) but the McCully doubts the sustainability of this dynamic (ie. sooner or later prices will respond to higher local supply)
  • Lower Chinese tariffs on a range of products are being viewed bullishly by US dairy exporters – expect more competition in that market!
  • The European intervention program details for 2018 and NAFTA outcomes represent big unknowns for powders and particularly SMP.

The bottom line is that milk supply is not much of an issue and the European market appears to be heading to another short term over-supply situation – which is generally followed by a price fall.

The McCully report does note that drier conditions in NZ are a possible positive for global markets. However, it also notes that this “scare factor” appears regularly and was overdone both last season and earlier this season (although it was the wet conditions then). Having said that, below is the latest NIWA data that does support the contention of rapidly drying conditions.

Corporate News:

Little to report here as well for a change.

  • Fonterra downgraded their FGMP forecast as has been well flagged. That together with the cut in guidance on dividend “available for payment” has cut a combined 35 cents off farmer payments in the current season (in an accrual sense)
  • A2 Milk announced the appointment of Jane Hrdlicka to the role of CEO replacing Geoff Babidge. Geoff’s retirement in 2018 had been flagged but along with John Penno’s exit this represents a substantial change. I know Jane and can attest to her intellect and her people and client skills. She has been widely regarded as one of 2 internal executives likely to be the next CEO at Qantas (she was until recently CEO at JetStar) so in Australia this has been greeted with some surprise but few doubt her executive skills (she was also for some years a non-executive Director at Woolworths).
  • Bega Cheese continued its transition to a “great Australian food company” completing the acquisition of Kraft’s peanut butter factory, adding to the Mondelez acquisitions (vegemite) in July.

 

GDT #202:

The good news is that WMP has respected the support we were keenly watching at the last auction (just above $2,800/mt) and has lifted circa $100/mt to $2950/mt across the curve. The curve is flat to slightly in backwardation so there is little incentive to bring demand forward.

However, with close to 70% of this season’s production having likely now been sold and WMP holding, further downgrades for this season’s payout currently are not prospective.

With WMP below $3,000/mt and other products soft, a 2018/19 payout of below $6.00/kgMS looks more likely so it is important that farmers bear that in mind. As noted above, while China demand remains a positive for dairy and for WMP, dynamics in the broader market and particularly European supply, are likely to weigh on the market.

The December futures point to a small rise in the GDT auction. I don’t expect much action in WMP so the risk (as with last time) is that the bid falls away in WMP and / or in other products. So the market looks slightly positive but, on balance, I still think the risks are slightly weighted to the downside rather than the upside.

The positive wild card in the mix, as noted above, is the perception of NZ full season production potentially being impacted by the drier than normal. Summer has arrived a month early and with soil moisture deficits in excess of 100 mm in many regions- conditions are now more typical of late January or February. It is possible this could see a lift particularly in WMP interest. With the recent reduction of 30c/kg MS in Fonterra milk price and spot PKE prices being in the order of $275/T (33c/kg DM delivered on farm) the economics of supplementary feeding are also less attractive and this could also impact on the season’s production.

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