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Market Commentary

By Scott Krakar

January 14, 2015

In its short duration 2015 has already seemed like a long year for energy investors.  Crude oil has seen a dramatic move lower.  Oil producers who were profitable in December are now losing money.  It is shocking how fast this happened.  Up until very recent times, the general consensus was that cheap oil was a thing of the past, after all it was said that world consumption would always be increasing and that higher cost projects were needed to meet this demand.  Therefore, investment money poured into the energy sector and oil producer debts grew as they financed new projects and extra capacity.  The earliest completed projects were indeed profitable as the market was able to absorb the ever increasing production.  Oil producers became complacent to risk and extra capacity continued to be added.  The outlook never looked brighter: oil producers had record production at great prices.  Governments around the world based their budgets on these resource revenues and everyone was comfortable.  No one is comfortable anymore.  Strength has turned to weakness and complacency has turned to fear.  The markets function is to now reject the weakest oil producers including the high cost and the highly indebted producers.  Market forces will stop them from producing and for those participants things will be very difficult. 

Obviously this is not an energy commentary and agricultural producers know where the discussion is heading.  Agriculture has seen significant investment around the world.  Production capacity is as large as it has ever been and the world can produce a lot of grain.  There are those who propose that world consumption will always be increasing and that market prices must remain profitable to meet this demand.  Has agriculture seen a brighter outlook than what we have seen in the past few years?  Have agricultural producers become complacent to risks similar to the oil market participants?  Personally I cannot answer this question, however in light of the recent developments in the energy sector it is prudent for producers to consider the possibility.  Agriculture is not dissimilar to oil production: the risks are real.

Corn:

On January 12th the USDA released their Crop Production report and the Quarterly Stocks report.  Overall US corn production was estimated at 14.216 billion bushels.  What this production indicates is that the US will build inventory going into next year at current usage estimates.  US ending stocks are estimated at 1.877 billion bushels versus last year’s ending stocks of 1.232 billion bushels.  With such a large carryover what is the catalyst to push the market higher?   As of this writing it is difficult to determine anything exceedingly friendly.  Sure, U.S.  corn is competitive in the world market place currently, yet exports in the last month have not been large enough  to reduce the carryover.  Ethanol grind has been sturdy and continues to be the largest consumer of U.S. corn however, as we considered energy markets are not profitable these days and therefore ethanol demand will not be stellar going forward with depressed energy markets.  $4.00 + corn doesn’t work well for ethanol with gas prices at the pump weak and stumbling.  Another thought worth mentioning is that livestock prices are strong and they will continue to feed.  This is indeed true however livestock prices are high because herd sizes are reduced, hence the strong livestock prices.  The reduced herd can only consume so much.  The U.S. dollar has also been showing great strength and its effect has been little considered to date in the grain markets.  There are factors at work today that are completely out of the control of the farmer.  The U.S. dollar is one of those factors.  For the past 7 years or so the US Federal Reserve has established a low interest rate policy.  This of course was done with a wide and broad view of the U.S. economy and the need for emergency measures to prevent further economic difficulty.  As a result the U.S. dollar fell at rapid pace and foreign currencies appreciated.  The net result of this was increased buying power to foreign nations.  The foreign nations who benefited from this new found purchasing wealth found U.S. grain to be cheaper simply because their currency was stronger.  They bought U.S. grain and the market rallied.  Fast forward to the present and we are going to face the opposite situation.  The US dollar is strong again and the buying power that foreign buyers once had is now slipping away.  Their weakened currencies make U.S. grain more expensive than previously and therefore grain futures fall.  This low interest rate/low US dollar has been very significant in accumulating value in land prices.  It is estimated that 40% of land values in the U.S. can be attributed to the historically weak U.S .dollar.  Finally, the speculators in Chicago are currently known to be large owners of corn.  Interestingly, this is the exact opposite position that they held at this time last year.  Last year the speculators were large sellers of corn while inventories were less than they are today.  The speculators will sell this position if they do not see it being profitable in the near future.  They will not worry about price, they won’t wait, they won’t be understanding to the costs of production, they will just sell.  

Locally, we have seen a difficult harvest finally completed, however a few corn fields still remain.  Corn basis continues to hold at import levels leaving basis upside limited.

 

Soybeans:

The USDA estimated the US soybean crop to be 3.969 billion bushels with a carryover estimate of 410 million bushels.  This carryover gives the soy market a very comfortable position especially with expectations of a large South American crop.  At the same time, soymeal has become readily available compared to the last quarter of 2014 when the late harvest limited soy crush.  These factors combine to leave the soy market vulnerable to a rather large fall in price.  Locally, the exporter is out of the market with the seaway shipping season closed.  Soy basis seems to be defensive however the weak CND$ is supportive.