Dairy Market Outlook Q3 2020

While US cheese prices continue to fluctuate, most other dairy products seem to have found an equilibrium price range. Milk supplies are building across the globe and demand is spotty – better in some areas, worse in others. As long as these conditions hold, dairy prices are forecasted to be rangebound for the most part. A breakthrough with a COVID vaccine or treatment would clearly be positive for dairy markets, and financial markets in general. But while it doesn’t seem to make headlines lately, the global economy is in a recession, which is usually negative for dairy demand.   

Global milk supplies are building once again, which should limit any upside with prices until there is a sustainable recovery in demand. Milk prices are generally profitable for farmers and weather has been positive for milk growth. The Oceania production season is off to a good start with more growth expected. For the most part, buyers have not had a reason to be aggressive in their purchasing, so prices have been in a holding pattern waiting for new fundamental news.   

Milk Production

Summary: Global milk production is back in expansion mode in the main producing regions with June output up 1.1% vs. last year.    

In the US, July milk production grew 1.5% vs. last year with 18 of the top 23 states posting higher output. The two largest states, CA and WI, underperformed vs. the national average with only 0.5% and 0.6% growth, respectively. The Southwest grew 1.8%, but was held back by a 5.3% decline in New Mexico. The Corn Belt region (IA, IL, IN, and OH) grew a surprisingly robust 4.1%, despite a hot, humid July. South Dakota posted an 11.5% gain, the third consecutive month of double-digit increases. US milk per cow was 1.1% higher than last year while cow numbers were up 0.4% or 37,000 head. After losing 35,000 cows in Q2, the nation’s herd grew 2,000 head in July as farmers held onto cows given higher margins. From early May through mid-August, weekly dairy cow slaughter was 73,000 head less than last year. While culling slowed, the nation’s herd still fell. One explanation is fewer replacements entering the herd. As of January 1, there were 74,000 less heifers to calve in 2020 vs. 2019. This represented 31.4% of the nation’s cow herd – the lowest replacement rate since 2009. With more herds breeding to beef bulls, and this year’s challenging economics, there could be limited growth in heifer numbers in 2021. Using January 1, 2020 data, there were only 10,000 more young replacement heifers that would calve in 2021. As a result, modest growth in cow numbers will hold back overall production increases to some extent.

Milk production in Europe also returned to growth in June with a 0.9% gain vs. prior year. The two largest countries, Germany and France, effectively canceled themselves out with a small gain and loss, respectively. The volume growth was led by Poland (+5%) and Ireland (+4%), while Italy fell 3%. Initial data for July points to further gains, fueled by 4% growth in both Ireland and the Czech Republic. Milk prices in August crept higher, averaging €32.91 per 100 kg, but remained €2 below pre-COVID levels. While there have been a few areas of concern, summer weather was generally favorable across the continent and conducive for milk production.

The early read on the new Oceania milk production season is positive. Rainfall has been beneficial and milk production is responding. July output in New Zealand was 4.4% higher than last year while June output in Australia was up 4.1%. The outlook is for a return to growth in both countries following losses in the last season. Oceania milk production has grown only once in the last 5 seasons. A developing La Nina is a watch-out, but current predictions are for rainfall and temperatures that would benefit milk production, and could lead to the strongest milk growth since the 2014/15 season.

Cheese

Summary: US cheese prices continue to exhibit the most volatility of any dairy product, but the ranges are far smaller than seen from March through July.

CME block and barrel prices likely over-reacted when then dropped into the $1.50’s and $1.30’s, but have staged a solid rebound following news of more USDA food box purchases and a bullishly construed stocks report in late August. The USDA announcement, while lacking details, creates more uncertainty in a market that is trying to find equilibrium. The supply side of the market is much improved from earlier in the summer. After losses in April and May, June cheese production grew 4.1% vs. prior year, the strongest growth rate since October 2018, and 1.8% in July. Total cheese stocks on July 31 were 2.4% above last year and American cheese stocks were 1.6% higher. However, the bullish part of the USDA Cold Storage report was the fact cheese stocks fell 23 million lbs. during July versus a 20 million lb. increase, on average. The drop during July was the largest for the month since at least 1970. Importantly for the CME spot market, there is more fresh cheese available than prior months.

On the demand side, retail sales continue to grow near 10-15% vs. prior year, but foodservice sales still struggle with school closures adding to the problems. Higher prices have dented retail sales growth, but low double digit gains are expected to last through the holidays. The downside is the lack of holiday and football parties as well as a lack of a new stimulus package and unemployment benefits. Retail sales slowed in August as benefits from the prior stimulus funds ran out. Cheese performs relatively well in foodservice with pizza and QSR gains helping to offset losses in full-service restaurants, and these trends are expected to continue until a vaccine is found. Recent research from McKinsey found over 80% of respondents had medium to high anxiety levels about eating at a dine-in restaurant. And data from Open Table shows sit-down dining down 50% from last August, a modest improvement from a 60% decrease in July. As colder weather sets in, the outdoor dining option will disappear and restaurants sales could slow.

Butter

Summary: Global butter prices have been steady to lower over the last month as supplies are more than ample to meet weaker demand.

In the US, the bottom line for the butter market is that stocks are burdensome. July 31 stocks were 373 million lbs., up 10 million from June, marking the largest increase during July since 1992. End of July stocks were 13% above year ago. With a normal draw-down, stocks on December 31 could be near 225 million lbs., roughly 50 million more than average. Retail sales have been a bright spot, but the last 4 weeks saw sales up only 9% vs. 28% YTD, and the latest week was near flat. Big questions loom over holiday demand. There will likely be more cooking at home, but holiday parties, and all of the high-fat products that go with them, are probably out this year. That could push more cream into butter, further adding to the surplus. In addition, the drop in dine-in meals hurts butter more than other dairy products. 

It hasn’t happened in 2 years, but European butter prices currently trade at a premium to US and NZ prices. Prices in Europe have staged a solid recovery from Q2 lows, climbing to €3,418/MT ($1.79/lb) by early September, the highest point since mid-March. EEX butter futures point to modest increases with contracts trading near €3,500 through mid-2021, up €100 from last month. The prices in New Zealand are heading in the opposite direction with prices for butter and AMF falling to the lowest point since August 2016 at the recent GDT Event.

Milk Powders

Summary: NFDM prices have traded around $1.00 give or take 5 cents since mid-May, but could break out of the range given higher global prices.

In the US, CME prices have moved back up to the top end of the range seen over the last several months, but the NDPSR weekly price average is trailing the rise in CME prices. Some fundamentals are bullish. July production was down 2% (NFDM -5%, SMP +10%) and exports, while slightly lower than June, were 52% higher than last July as the US took advantage of lower prices relative to other regions. However, stocks increased nearly 21 million lbs. in July. June domestic commercial disappearance was 12% below prior year, and the increase in stocks suggests July continued that trend. CME prices could finally break above $1.05 in the coming weeks, but upside is likely limited beyond $1.10 this year. Milk production is growing and less school milk pushes more milk towards dryers. Until NZ and European prices make new post-COVID highs, US prices will remain rangebound near current levels.

Global SMP prices dipped in early August, but have recovered by early September, albeit within a narrow range. The sideways trade indicates a relatively balanced supply and demand picture. Chinese imports jumped in July to the highest level since January, up 2.5% vs. last year. However, the pace of WMP imports has slowed with July down 11% after a 7% drop in June. Like the US, with milk supply growth in Europe and Oceania, and questionable demand, milk powder prices are forecasted to remain rangebound.

Whey Products

Summary: Prices in the whey complex are mixed with stable prices for the carbohydrates, but a soft market for the proteins.

Sweet whey powder production grew 2% in June and July, and while July exports were the highest in 2 years, stocks have held steady near 85 million lbs. since May. Global prices for whey have traded in the mid-$0.30’s since March. Increasing milk and cheese production will result in more whey production. Given poor margins on WPC and WPI, this could push more production to sweet whey powder. The bullish case for prices is increasing demand from China, which could keep prices in the mid-$0.30’s. In July, China imported a record high amount of whey, up 64% from last year. Year-to-date, Chinese whey imports were 36% above January-July 2019. As China continues to rebuild its hog herd, demand for pig feed is supportive to sweet whey and permeate prices.


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.