Representing the third largest wheat variety in the United States, SRW wheat is mainly grown in 25 states east of the Mississippi River and is commonly used for producing flat breads, cakes, cookies, snack foods and pastries. SRW’s domestic use/consumption has accounted for an average of 48% of total SRW supply since 1985, showing strong domestic demand for the grain. Comparatively, HRW’s domestic use/consumption represents on average only 40% of total HRW supply over the same duration.

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Highly sought after in world wheat export markets due to its versatility of use and high protein content, HRW represents the major U.S. wheat varietal and is the primary ingredient in the production of bread. Since 1985, HRW has averaged almost 40% of all U.S. wheat exports while SRW has averaged only 15% of total U.S. wheat exports over the same duration.

In the past two decades, major global commodity export markets and production have undergone a shift towards regionalization as new centers of production emerge. The wheat export market is no exception. According to the USDA, today’s world wheat markets are flush with record ending stocks driven by massive growth in production and exports from the Black Sea Region (BSR). Once the dominating presence, the U.S. wheat export market share has decreased significantly from 29 to 15% since 2000.

Export Sales Market Share U.S. vs Black Sea Region (Ukraine and Russia)

Source: USDA

Today, the BSR dominates the wheat export market, supplying the world with high quality and competitively-priced grain. Driven by production in Russia and Ukraine, the BSR accounts for close to 35% of world wheat export market share.

With HRW’s high dependency on export marketing channels, the shift in global wheat export markets away from the United States and towards Europe and the BSR has had a marked impact on global demand for the U.S. HRW crop and the price at which it can be exported.

BSR wheat typically trades at a discount to HRW, as can be seen in the respective futures price of each market below. This, combined with the BSR’s favorable geographic proximity to the major wheat import markets of North Africa, the Middle East and Asia, has greatly limited the competitiveness of U.S. HRW exports in recent years leading to a build up in supply and stocks.

HRW vs. Black Sea Wheat Futures Price

Source: CME Group

With all of these factors in play, the Kansas City Wheat futures (KE) contract, based on HRW wheat, has been trading at an unprecedented discount relative to Chicago Wheat futures (ZW), based on SRW, in 2019.  As described above, the historically small SRW production relative to HRW production has resulted in tight SRW availability and stocks and record SRW cash premiums versus HRW.

KC-Chicago Futures Spread Relative to SRW % of HRW Production

Source: USDA and CME Group

Abundant world wheat supplies and competition from the Black Sea combined with the domestic supply side concerns of SRW wheat relative to demand could carry the Kansas City-Chicago wheat spread well into the 2020 marketing year.

With the macroeconomic trends driving these two markets continually in flux, the activity in this spread will have widespread implications for domestic and global wheat markets for the foreseeable future.