Through analyzing the pattern in NSW & VIC for the last 30 years, it can be inferred that the heat stress potential on dairy/livestock herds in this region is limited.  This is important in the context of current milk prices, as well as prices in the broader commodity complex.

The analysis found that when (usually summer) monthly precipitation for the current month was at least 125% of normal, monthly maximum temperatures for current month do not (60+ years) average a value that is greater than 1 standard deviation above the mean.  Weather data is for stations that are situated in the heart of the dairy producing regions.  Further, when a particular month experiences rainfall in this range, the following month (+1) also does not exceed this temperature threshold. 

Therefore, we can assume that heat stress for herds not only can be limited in March, but the relationship should also hold for April.  This is a positive factor for milk production in southern Australia & NZ; also a favorable pattern for grassland/grazing conditions.  The current vegetation index (NDVI) from USDA-FAS supports this view.

 (2010 is the 2009/10 season.  2011 is the 2010/11 season)

Dryness across eastern China in recent months is likely to have an acute effect on the current winter wheat crop, and there are also anticipated effects on the coming spring wheat & corn plantings.  The above map from the Foreign Agriculture Service shows that the drought is most severe in Shandong, Hebei and Henan provinces.  These three provinces are among the largest corn producing regions in China; this is also the heart of the wheat growing region.  For most of the North China Plain region, December and January precipitation has been low (see WTI map below of Jan prcp vs. normal), with many key agricultural regions receiving between 20%-40% of their typical seasonal rainfall.  In addition, winter snow cover totals have been low, which in effect removes a layer of protection for dormant crops.

The dry pattern is not expected to break in the short term, so the first impact will be on the winter wheat crop, which will start to come out of dormancy in late March.  We so see some improvement in the extended forecast, but given the severity of the current drought, there will certainly be a lag before vegetation and soils across the affected provinces start to exhibit a positive response.

Chinese agricultural officials have made a recent statement, downplaying the severity of the drought with respect to crop impact.  At this stage, we do not agree with this assessment.  The lack of moisture may take 1-1.5% off of yield expectations for the current winter wheat crop, and there will also be a likely limitation on the spring plantings, which typically commence in early March for wheat, and late March/early April for corn.

La Nina conditions to continue, with effects on prices of everything from corn to coal.  Weather Trends map below shows current snapshot of Pacific cold SST anomalies.

( map courtesy of IRI/LDEO )

Index values >2 correlate with extremely wet conditions for the particular region.  Droughts often are broken with an extreme pattern in the opposite direction, and while the short term ramifications to the agricultural sector in eastern Australia will see a negative impact in the current crop year, this pattern is likely to have a benefit for the following year(s) as areas that have been moisture deficient will have the ability to recharge soil moisture and groundwater.

Fortunately, production conditions in the US have been favorable in 2010, but with the current market, any acute weather shock will start to affect Class III prices as well.

The Agricultural Outlook Americas conference was held in Boston this week.  This year’s event brought together a mix of growers, investors and technologists, with discussions ranging from  new investments on the farm to currency hedges.  The three day event contained too many interesting discussion points to cover in a single article, so I will address only the highlights here, with follow-up related to some of the focused discussions in future columns.  On the first day of talks, much of the focus was decidedly LATAM, with a recurring theme addressing a potential land bubble across all of the Americas.  With the ag commodity futures markets as volatile as they have been lately, readers should note that the focus was weighted towards investment opportunities with a slightly longer time horizon, and the focus started out with an emphasis on farmland acquisition opportunities, and how to view potential exits with a multiyear, or even multi-decade holding period.  Many of the discussed opportunities always seemed to always point back to Brazil, but difficulties associated with foreign investment in land assets were noted.  Investing directly in agribusiness holdings with strong financials and/or targeted ETFs may provide the easiest access as a starting point (CZZ, BRXX, BRAQ).  In one panel in particular, each panelist was asked about a potential bubble in agricultural investment (primarily land), the response was a resounding no.  But it is important to remember that agricultural land is still essentially a real estate play, and the forces of supply and demand are still at work.  We all know the statistics that support the premise that intensification of agricultural production will be absolutely necessary if we are planning to adequately feed the growing population in the coming decades (there are an expected additional 1 billion mouths to feed over the next few decades).  Intensification, while replete with drawbacks, also implies that the rate of growth regarding agricultural land expansion may level off.  Additional acres to support more mouths notwithstanding, the speculation on support for increasing land prices was not, in my opinion, provided with adequate support.

One point that was underscored, was that a tremendous amount of emphasis is anticipated to go into Brazil and Africa, with, at least in the minds of the majority of speakers, a less bullish stance on expansion in China and India.  While this may not be much of a surprise to most, what I truly did find surprising was the lack of mention, anywhere, of India.  There are well known difficulties associated with foreign investment in land in India, but there are still investment vehicles that provide an investor exposure to this rising asset class.  Indian infrastructure companies can be tied to port and road construction, irrigation and water development, among other variables, and there are numerous ETFs that can allow the individual investor to capitalize on these markets (INXX, PIN).  As the week went on, discussions started to focus on more strategic investment themes for the sector; the usual suspects (population growth, EM growth, protein demand, etc.) tended to contain the broad themes, supplemented with country specific projections that tended to focus on targeted crop expansion and technological innovations.  Regarding the innovation theme, there was an interesting observation.  The global agricultural community, which is a collage comprised of big agribiz (think Cargill & ADM), family farms in Mato Grosso, bankers/hedge funds (many of which have no clue how things grow), and everything in between.  As I do much of my work at the first link in the global supply chain, I attend numerous events like this each year.  When working with such a diverse group, it is often difficult to achieve consensus on anything, and particular reverence is often displayed towards new technologies.  This is very notable among the grower community, whose farms and farming techniques are often passed down through generations, just like a watch or a wedding ring.  After expecting the usual pessimism regarding cooperation (and there was plenty), the common thread that seemed to permeate all discussions which led to consensus, was data.

The innovations in agriculture that grab most headlines are usually related to new seed varieties or physical infrastructure related to increased efficiencies in drip irrigation.  So after one panel session comprised of investors looking for opportunities in both hemispheres of the Americas, I asked about the ‘non-tangible’ innovations that often fly under the radar – those that require not much more than access to large databases, data manipulation creativity, and computational resources.  And after the panel agreed that these are the next generation of agricultural investments, nearly every following discussion seemed to touch upon this theme.  The nice thing about quantifiable data is that this can come from subjective sources, as well as those repeatedly tested in a laboratory.  Given a long enough time series, a grower’s logbook for instance, containing such information as to how a particular crop might respond to a particular weather pattern, the amount and type of pest fighting application that may have been used, and local market offers, all can be assembled into an index, which is another quantifiable data stream that users may have at their disposal.  And while upon first glance one might suppose that these are closely guarded secrets, growers are probably one of the most supportive advocates of open access and data sharing, as what wiped out your neighbors crop a decade ago, may be the very thing that hits you this year.  The potential for collaboration was evident to everyone.  Looking ahead, I expect numerous high quality/high margin products to come to market which have their ‘roots’ in both the acquisition of new types of agricultural data (ranging from genomic to planetary weather), as well as in the repackaging existing data in an effort to (a) widen producer’s margins, and (b) provide transparency on crop conditions, so changes in USDA crop yield estimates for instance (see below) do not come as a surprise and shock the market as we have seen in recent weeks.  

As expected for a multi-day event, as the final day approached, a thinner audience resulted, but this certainly proved to be one more conducive for discussion and debate.  The last day’s discussions were moderated by Roger Berry (C Change Investments), who proved to be the most effective in both steering conversations to the interests of the audience, as well as generating more discussion among participants.  It was good to finally see some environmental/biodiversity and true acute crop related issues discussed on day 3.  As talks focused on the market today, the discussions were framed with some some history, which is absolutely important to understand if we are going to plan for the next 50 years with population movements and agricultural intensification.  Berry even mentioned climate change and water limitations as decision points in investment decisions, which is oftentimes an afterthought to investors.  Also, the new colonialism was mentioned, as a changing dynamic in the global supply chain.  Not the usual talk at an agricultural conference. 

The keynote speaker on the last day was the one who I wanted to hear the most: Dr Gerald Bange of the World Agricultural Outlook Board which is the group responsible for the WASDE, always eagerly awaited every month by traders and analysts.  Here were Dr. Bange’s main discussion points:

• In his focus on C-S-W.  In the WASDE, Bunge acknowledges limitations, particularly regarding supply-side estimates. 
• He addressed Russia wheat crisis this summer.  Russia is exporting 18-20 mmt less than last year, and they only reason they were able to export 3mmt this year in light of the export ban was due to prior commitments
• Russian wheat imports also surged
• He highlighted importance of acute weather events, and the role they play in volatility in futures.
• He also said this type of weather event happens in russia every several years (it doesn’t).
• Regarding the US corn crop and USDA’s significant revision downward on estimates, he notes that the US corn yield this year is not BAD (ie., not far from trend), just lower than previous expectations.  *This is exactly what we told clients throughout the entire season this year.
• Looking forward, shorter crop coupled with early harvest places his agency’s corn price estimate for the (2010/11) year at $5.20, with ending stocks moving down.  USDA expects $7 corn for the same period.
• Ethanol: Oct production running at a record high.  There is a 14 bln gallon capacity – this may be enough as US gasoline consumption is not increasing.  Ethanol producers making around 28 cents/gallon, so there is an incentive to keep producing.

All in all, the week provided a very fruitful conference which provided food for thought on the train ride back to New York.  Feel free to contact me if you would like to discuss any of the items discussed above in more detail.

We’ve been discussing how the La Nina driven pattern has exerted a positive influence on  US dairy production in 2010, limiting seasonal heat stress in California while at the same time contributing to a pattern that supported a strong grazing season in nearly all producing regions.  As the transition to 2011 commences and the La Nina (potentially) starts to move towards a neutral state, this sets up the possibility for a warmer start to the  2011 high-volume months, which again will be good for production through 2Q next year.  However, we are becoming more concerned about the potential for a very strong  reaction on the feed side in 2011, which could be a significant catalyst for a very constructive market for milk (& byproduct) prices next year. 

Healthy production weather notwithstanding, we have seen a $1.00-$1.50 price swing to the upside in Class-III Milk since early September, but we still are not at the levels reached in the market one year ago.  At the start of 4Q10, there are now a few very important factors to keep a close eye on: first, USDA decreased their corn estimate for the US crop dramatically in their recent estimate.  We have maintained all season that the USDA was far too optimistic in their production outlook, and the release of their production and yield numbers last week was a significant correction, which supported the grains complex.  Second, as a result of this revision, projected carry-over stockpiles will be tight, and the stocks-to-use ratios for corn and wheat will support higher prices though Feb2011.  Third, with the recent spike in the cotton market, there is already talk of corn and wheat shifting acres to cotton next year, so 2011 production acres may see a net decrease.  Finally, our long range view is hinting at extended dryness in much of the US corn/soy belts (shaded, above right), which will again set the stage for higher grains prices, translating to higher feed costs, reducing the margins of producers and supporting higher prices through summer 2011.

For some time, we have known about the positive relationship between La Nina-like conditions and milk production for US herds.  During an El Nino, conditions for much of the US may tend to be warmer and wetter, and as dairy cows exhibit sensitivity to heat stress and/or muddy fields, these conditions correlate with decreased milk production, particularly during the key months (Mar-Jul) in the annual cycle.  As the opposite La Nina pattern has been developing for the last several months, cooler temperatures have been present across much of California (the largest producing state), limiting heat stress and contributing to an active grazing season, both of which are good for milk yields.  As Weather Trends has been advising to our clients, this particular La Nina is actually shaping up to be a pretty strong event, and as a result, we have been expecting better US production numbers to follow.  Note that this does not take into account decreased herd size, so the emphasis is on milk yield per cow.

To test this idea, we looked at the relationship between the Southern Oscillation Index (SOI), which is an ENSO guide, and US milk production over the last decade.  Specifically, we highlighted periods where there has been a stronger trend towards positive-phase SOI in recent months relative to the 6 month moving average; the assumption being a stronger relative acceleration towards positive phase supports better milk production weather.  Using a simple decision-tree scheme, the time series was split by grouping all months where the more recent period showed stronger positive SOI characteristics (as defined by a quantitative index).  Of this reduced group of months, we then looked at monthly normalized US milk year–over-year (y/y) production to see if stronger numbers may have been related to the index.  We found that using a sample size (n)  of 60 months, y/y milk yields increased in 52 of these months (87%), verifying that a positive correlation exists. 

We do not suggest that the SOI, or any other weather parameter is the primary factor in assessing potential milk production.  Many other components go into strong yields, including herd management, feed quality, and of course, economics.  But this simple analysis does demonstrate that weather can be a key driver in the amount of milk that is flowing from producers to consumers, and it bears watching as a signal for forward pricing, and assessment of global stocks.  Also, this is just one example – we have developed many more sophisticated means at quantitatively and qualitatively assessing the weather/yield relationships across a wide variety of sectors within commercial agriculture.

Please contact Weather Trends if you would like to learn more about our work being done in this area.

We have noted in the weekly US updates to our clients that July US milk production and yield numbers may need slight revision as a result of the heat event which occurred early in the month.  Total seasonal numbers for the US and specifically California are still going to be supported by a favorable weather pattern; however, the mini-heatwave that affected some of the producing regions in central California will likely shave a small amount off of the July production estimates.  We did confirm that temperatures in these counties were between 102°F and 107°F for several hours per day (for between three and five days), so we do anticipate that most July values will see a downward 1-1.5% revision for CA production numbers (following verification).  This event notwithstanding, the longer range pattern has still been very good for California, so while July may exhibit a slight decrease, August looks to be strong with limited heat stress – the maxtemp forecast for the next two weeks is shown below.

While the weather has been good for dairy, the same can not be said on the feed side.  The pattern in the heart of the corn belt started off particularly good this year, and with a relatively healthy stocks situation, it looked like feed costs might be kept under control.  Following the favorable start (early plant in many states), muchof the US Midwest was entrenched in the grips of an extended heatwave, which based on numerous field surveys performed from mid July through the end of last week, are indicating a higher prevalence of heat stress through smaller ears and reduced kernel counts for corn, and delayed development in wheat.  Add to this the current crisis revolving around wheat in Russia/Kazakhstan, and support for higher feed prices is all but inevitable through 4Q10.   We do expect the US corn, bean and wheat crops to all finish with healthy numbers, but it is unlikely that they will be as high as consensus USDA estimates; we did have this heat figured into our seasonal outlook, so we are not revising our outlook.  Further, the situation in Russia does look to improve, and growers there are probably through the worst part of this pattern.  So longer term there are factors that should limit how high feed prices should rise, but in the short term, we anticipate the volatility in the futures markets to keep a premium on feed costs at least through September, and likely through much of the US harvest.  

Down Go the Cattle Numbers – Again – Chris Hurt, Extension Economist, Purdue University

The nation’s beef herd continues to decline. After several years of financial difficulty, producers show no interest in rebuilding the herd. As a result, beef supplies will continue to decline and prices will remain strong for several years to come. On the down side, however, beef consumption per person will lag and other animal species will gain larger market share in coming years, especially chicken.

The USDA estimates that beef cow numbers as of July 1, 2010 dropped to 31.7 million head, a decline of two percent from a year ago. Milk cow numbers were down one percent. Just as importantly, producers reported they were retaining two percent fewer beef heifers to go back into the herds. This seemingly assures that beef cow numbers will continue to drop into early 2011.

Read entire letter here.