Dairy Market Outlook

In the United States, cheese and butter markets moved higher through Q2 with more upside expected in Q3. But globally, markets have cooled off for now although the recent heat wave in Europe is a watch-out with bullish implications for prices. With lower stocks than the last few years to fall back on, the margin for error is small. Milk production from the main export regions (Europe, U.S., Oceania, and Argentina) was slightly below prior year in 5 of the last 6 months through April. With a weak outlook for U.S. milk production growth, problems in Europe this summer or Oceania this fall could be the catalyst for higher global dairy prices.

U.S. dairy prices are headed toward a cycle high, but it’s not known yet if that will happen later in 2019 or stretch out into 2020 (see graph below). CME dairy markets are showing their maturity by trying to solve future problems today by bidding up cash and futures prices. There are a number of uncertainties heading into the second half of the year – grain/feed prices, weather, trade, and the impact from Dairy Margin Coverage (DMC) and Dairy Revenue Protection (DRP) programs. While lower global prices can hold back NFDM and whey prices, U.S. prices for cheese and butter can divorce themselves from the global market and trade on domestic fundamentals, at least for several months.

Milk Production

Summary: Milk supplies in the U.S. remain constrained while Europe has grown faster than expected. Feed cost is a concern in the U.S. while a heat wave threatens to slow output in Europe.  

U.S. milk production was down 0.4% vs. year ago in May – the first time since late 2013 with two of three months having lower YOY output. Growth in several states (California, Texas, Colorado, and Idaho) was not enough to make up for large losses in the Midwest and East. Weather was less than ideal in both areas in May, so that contributed to some of the weakness. June weather improved, but the spring flush was modest compared to recent years. One surprise in the report was a 5,000 head increase in cow numbers during May despite continued higher culling rates. The biggest gainers were Texas, Idaho, Colorado, and Kansas. Large farms with lower production costs may have been taking advantage of low cow and replacement heifer prices last fall and winter. Feed costs remain a wild card and forage quality will be an issue in some states (e.g. Wisconsin).

Milk output in Europe posted another solid gain in April up 1.4% vs. last year following a 1.7% increase in March. Ireland was back in growth mode with a 15% YOY increase while the major producers, Germany and France, were flat and down 1%, respectively. May data show another month of solid growth for Ireland (+11%) and a modest 2% loss in the Netherlands, so total EU-28 production should be close to the prior two months. Weekly data for June is mixed with French output up 0.3% in the first week of June, but German production down 0.8% vs. prior year. Dairy farms are set up to post good growth in 2019, but a recent heat wave in several key regions in Europe has heightened concerns over the milk production outlook. If the weather returns to normal, milk output is expected to grow, which would help meet global demand in Q3. However, lower supplies would likely tighten the supply-demand balance and push prices higher. By Q4, the focus will turn to the start-up in Oceania.

Cheese

Summary: CME cheese prices have rallied to the highest level since November 2016 with more upside expected while global prices are at a discount to the U.S.

Total cheese stocks in the U.S. were only 0.1% higher than prior year on May 31, which was the narrowest gap since October 2014. More alarmingly, stocks declined during May for only the third time in history and had the largest volume decrease on record. Other natural cheese stocks were nearly 5% above last year, but American cheese stocks were 2.4% lower than May 31, 2018. This is important since Cheddar cheese drives CME prices. Recently released May data showed a 1.6% increase in total cheese production and Cheddar output grew for the first time since last November, albeit a modest 0.2% increase. Less cheap milk in the Midwest means less cheese – American cheese production in Wisconsin during May was 3.9% below last year with Cheddar down 0.6%. Spot milk traded for $2 under to $0.50/cwt over class during the Fourth of July holiday week. This is higher than recent years and points to a tighter milk and cheese market for the second half of the year. In addition, the CME market only trades 4-30 day old cheese and short-term tightness (e.g. from hot weather/lower milk production) can drive prices higher. On the bearish side, exports will likely drop off in the second half given U.S. prices are well above European prices. Retail sales slowed in the most recent month and foodservice demand is rated as decent.

While U.S. prices are pushing higher, global prices have been flat to lower. In Europe, cheese prices have been stuck in the $1.50’s since last fall, and with more milk going to cheese plants, look to remain within that range in Q3. New Zealand prices are also moving lower leaving the U.S. as the premium price among major supply regions. The weaker Euro and low price should help European exporters, if they have the styles of cheese demanded by buyers.

Butter

Summary: Like cheese, U.S. butter prices are trading at a premium to global prices and look to have additional upside through the fall.     

The shortfall in milk and cream production in the U.S. has resulted in lower stocks on May 31 trailing year ago levels by 7.2%. They are nearly the same level as 2 years ago when prices moved up to $2.70 during the summer, helped along by record high prices in Europe. Cream supplies are tight in the Eastern half of the country and cream multiples are in the mid-130’s with additional increases expected. Global prices won’t matter until Q4 when imports of butter and AMF could start to increase.

With U.S. prices trading on domestic fundamentals, the global fat market has seen prices slide lower over the last 1-2 months. In Europe, the latest EEX price of €3,760/MT ($1.89/lb) is the lowest since August 2016. Stocks are reportedly higher than last year and buyers have been content to let the market fall. Futures point to a modest rebound in prices for the rest of the year, but are well below levels seen the last few years. Prices in NZ (GDT) have also slumped dropping from $2.45/lb in late April to $1.92 on July 2 (a decline of 22%). Global prices are not expected to fall much further from current levels, but upside appears limited at this point given adequate supplies of butter and fat.

Milk Powders

Summary: NFDM/SMP prices have leveled off in recent weeks, but the market tone remains firm.

Since the annual ADPI conference in early May, NFDM/SMP prices have been stable with the CME trading within a penny or so from $1.05. May milk powder production was 5.6% below year ago, near expectations given the lower milk production. However, the split between NFDM and SMP was telling with NFDM production up 5% while SMP plummeted 40% implying poor export demand, likely in June. May exports were up 12% from April, but remained 9% below prior year. The increase in exports wasn’t enough to offset higher production and modest domestic demand. As a result, NFDM stocks advanced 2% during May and stood 4% above prior year on May 31. Weak milk production should be bullish for NFDM prices, but is offset with a stable global outlook for now.

Global SMP prices remain in a tight range between $1.05-1.10 ($2,300-$2,425/MT). On the bullish side, weaker output in the U.S. could push prices up to $1.15-1.20. A drop off in European milk and SMP production due to hot/dry weather this summer would also be a catalyst for higher global prices. By Q4, the focus will shift to the Oceania start-up. Demand destruction at higher prices is holding prices back in some countries as is the hangover from SMP intervention stocks scattered around the globe.

However, that has not been a problem in China as their SMP imports in May reached a new record for the month. For the first five months of the year, SMP imports were nearly 29% above last year and 18% above 2014, which was the previous record high. Chinese WMP demand also increased in May, but at a much more modest pace than SMP. To date, WMP import volumes were 30% above year ago, but well below 2014’s record levels. Reports point to a slowdown in purchasing activity in Q2, so that will likely be reflected in a drop-off in imports in June and Q3. One watch-out is the rumors of dairy farms selling cows for beef in response to higher pork prices from African Swine Fever. If that is the case, domestic milk production will fall and the need for imports will increase, which is bullish for global prices.

Whey Products

Summary: Not much has changed in the whey market with soft prices for the carbohydrates and weakness seen in the proteins.

Dry whey production in the U.S. was down 8% vs. prior year in May – the seventh consecutive month of YOY declines. Exports continue to be weak given African Swine Fever and Chinese tariffs. In May, Chinese whey imports fell to their lowest level since February 2016. They were nearly half last May’s volume and the year-to-date total was down about 26% from prior year. May shipments of dry whey from the U.S. fell 6% from April and were 41% lower than last May with exports to China down 83%. Dry whey prices in the U.S., Europe, and NZ have converged around $750-800/MT ($0.34.36/lb) with a stable outlook.


Disclaimer

Information contained within is not guaranteed, is the opinion of the McCully group, llc, and is intended for informational purposes only. Commodities trading involves risk and is not suitable for everyone. The McCully group, llc is not a licensed commodity broker nor trades in commodity futures markets.

About the Author

Mike McCully is the owner of The McCully Group LLC, which provides management consulting for dairy and food companies. For more than 15 years, Mike worked in dairy, meat, and grain management roles at Kraft Foods where he was responsible for the commodity risk management for dairy and meat, dairy policy, sourcing of dairy commodities, and corn purchasing.