By Matt Mattke
Q: Historically high input costs and near-all-time low milk prices have a devastating effect on many dairy producers. How much longer can this gap between costs and revenues continue? What does that mean for upward milk price potential?
A: Milk prices remaining below $12.00/cwt., with corn and soy prices over $4.00/bushel and $9.00/bushel, respectively, cannot continue for too many more months. Bearish fundamental pressures for milk will linger and likely limit the upside on milk prices for the next couple months, but the upward price potential starts to increase substantially starting with the June 2009 contract.
There are three trends that need to be kept in mind when looking at the milk price, and each is defined by a different time horizon. The three trends are: short-term, intermediate-term and long-term.
Short-term will be defined as less than a year; intermediate-term will be defined as one to three years; and long-term will be defined as more than three years.
The fall in milk prices is likely near exhaustion. Some risk remains for the next couple months if seasonal pressure kicks in via a further build in cheese inventories, but the short-term trend is likely to shift from lower trending prices to higher trending prices. This could entail upward pressure on prices into the third and fourth quarters of 2009.
However, the short-term milk price rally that is likely to come will run into selling pressure from the intermediate trend that will still be down. The intermediate trend will prevent a return to $19.00-$20.00/cwt. Class III futures prices. The multiyear (intermediate) downtrend that milk prices are in will likely only allow the short-term uptrend to retrace about 50%-62% of the entire down move from the May 2008 high to the February 2009 low (see chart).
Then the intermediate trend will likely cause milk prices to move lower. This intermediate or multiyear downtrend will have two potential price objectives on the downside: 1) to retrace 50% of the entire rally from the 2003 low to the 2008 high; or 2) 62% of the entire rally from the 2003 low to the 2008 high (see chart).
If you are looking for historical evidence in the milk market to compare to the above scenario, look at milk prices from the 1999 high to the 2003 low. The milk market was in an intermediate downtrend from 1999 to 2003 with a short-term rally from late 2000 to the middle of 2001.
All of this may not sound like the greatest projection for milk prices going forward, but when the short-term rally comes, it will provide producers with good pricing opportunities. It will also provide these pricing opportunities at price levels many dollars higher than the $10.00-$12.00/cwt. prices currently being offered in the nearby contract months. (Deferred contract months are already at $14.00-$15.00/cwt., but the chart below is for the second month contract, which is currently April. This chart represents more nearby contract months and shows that there are dollars of upside potential in a short-term rally in these months). Due diligence and discipline on the part of producers to sell into this short-term rally will be important because of intermediate pressure that will exist.
As for the long-term trend, the future looks extremely bright for milk producers. New historic high milk prices, well above the $22.50/cwt. high from 2007, are on the longer-term horizon.