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GDT 204 Medium term cloudy?

A robust start to the year across financial and commodity markets the USD excepted:

It has been a fairly busy first 2 weeks in global markets featuring robust equity and commodity market performances and significant USD weakness.

In a sense the latter is the more important factor for the NZ rural community with offsetting impacts.

Firstly, the corollary of the weak USD has been NZD strength with the NZD touching US 73 cents this morning – a 7% rise from the lows of just above US 68 c late last year. The good news in this is that a weak USD is generally supporting commodity prices around the world (see below) and that would appear to include dairy prices.

I would not want to portray this as purely a dollar affect. Markets have generally come into the new year bullish on global growth and specifically optimistic on global manufacturing output as portrayed in robust US and European PMIs (Purchasing Manager Indexes). Arguably this should be more bullish for oil and industrial metals than other commodities but the rising tide of optimism appears to have lifted all boats!

The USD impact has been significant. To put it in context I attach the chart below. It shows the USD bullishness on the back of Trump’s election in 2016 which took the USD index (DXY) to almost 103.82. After being weak for most of last year the dollar rallied to an index level of 95 in December 2017 before its latest bout of weakness. Today, at 90.4, the USD index is 10.7% weaker than it was exactly 12 months ago and 13% weaker than the highs recorded on 3 January last year.

The next chart below shows the NZD and WMP over the same time period.

So notwithstanding the negative impact of a rising NZD, the combined dynamics of a weak USD and global optimism on growth has generally benefitted the commodity complexes.

For NZ dairy, the local supply situation and weather has also added to the picture. A further downward revision in Fonterra auction volumes impacting WMP, SMP and butter and poor -3% December monthly production (albeit not as bad as probably expected after the Fonterra revision in December of forecast full season output) have added to the price support.

 

GDT #204:

The trend in the last few auctions has been to “fade” the intra auction activity.

Heading into the last auction the futures were indicating a price rise of up to 7% and the question was “how much of that will stick in the auction”.

The answer was that a 4.2% rise (as opposed to the projected 7%) stuck but this was a good outcome with prices across the WMP curve trading between $2,860/t and $2,942/t.

Intra auction this has lifted again. While the January contract is trading at $2,885/t – not much changed from the last auction, the rest of the curve is trading above the key $3,000/t out to July 2018 with most contracts 4% - 6% stronger.

SMP prices have also improved about 2% holding between $1,700/t and $1,800/t while AMP and butter are 1% to 2% weaker.

The MKP futures also reflect this improvement and they have trade up from $6.38/kgMS at the last auction to $6.43/kgMs this morning ($6.40/44/kgMS bid/offer).

Reflecting the recent auction trend (ie. fading the intra auction prices), this would suggest a 2-3% improvement in WMP and perhaps 1% in the overall GDT index. An outcome better than this would be a very good outcome in my view.

 

A word on the global picture:

The relatively favourable picture painted above comes against a global backdrop for the dairy market which is not as robust. While China imports continue to increase, the global supply picture is not all we would want to see. Year on year European production continues to increase and, while slowing somewhat, US production remains up year on year.

The picture out of the US from Rice Dairies and the McCully Report is one of a relatively weak market with US margins declining towards breakeven. They expect a weak H1 for the calendar year before a better H2 – dependent on slowing production in both the US and Europe.

 

Summary:

We began the year with a good first auction result and hopefully this will follow through tonight in GDT #204. Maintenance of WMP prices close to $3,000/t should ensure that current Fonterra guidance for this season is maintained.

The outlook for 2018/19 remains a little mixed. Clearly, a WMP price into the new season would be a positive but maintenance of this level would seem to require some further slowing in US production and a marked slowdown in European production. Even then, combined with a NZD trading at 73 cents, the outlook for next season’s FGMP is well below $6.00/kgMS and that is worth bearing in mind as we consider plans for next season!

 

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