Drought and demand

by Jay Sjerven
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A nervous world is counting the days before the harvest of the 2008 wheat crop across the Northern Hemisphere. By the time combines begin rolling across the southern Plains in the United States in June, world wheat stocks will have been reduced to the smallest levels in 30 years, and the U.S. wheat inventory will be the tightest in 60 years.

Wheat prices in the past few weeks dropped from all-time highs set in late February and early March in anticipation of the harvest, but even those most optimistic about new crop prospects in the United States and around the world cautioned prices were unlikely to drop to levels prevailing before this year’s surge for several years, if ever. Secretary of Agriculture Ed

Schafer, addressing the recent International Food Aid Conference in Kansas City, said, "In the short term, wheat prices should ease a little, but in general, they will remain higher for much of the coming decade."

Going into 2007-08, the expectations of strong corn prices resulting from surging ethanol demand caused considerable jitters in wheat markets. In the end, corn supplies were adequate to meet demand, and the rise in wheat prices was triggered by other factors, principally crop failures in several parts of the world. A year later though, on the eve of 2008-09, wheat market observers have their eyes locked on the corn market once again.

"The thing that scares me about wheat is the price of corn," a flour miller said. "It’s linked somewhat to the price of oil, and there is a wide variety of views on the price of oil. Some say it is headed to $80 a barrel and some say $125. It’s a tense time. The difference for wheat this year is that corn acres are projected to be down, ethanol use up and the price of oil is up. On the other hand, there is plenty of moisture in the Corn Belt going into planting season. No matter how things go with the corn crop, I believe it will be difficult to get corn beneath $5 a bu.

"Feed demand doesn’t seem to be rationing much, and weather scares get accented. It was raining recently in the Midwest, and corn was up 15c because planting is delayed. It’s early, so who cares about the planting delay? But it shows that markets are jittery. A weather concern that used to be worth 2c or 3c a bu is now worth 15c or 20c."

The miller warned against ignoring potential further old crop wheat volatility, particularly for spring wheat.

Recent months have been without precedent in the history of U.S. and world wheat markets. U.S. wheat futures prices skyrocketed to all-time highs just weeks ago and price swings from minute to minute, let alone from day to day or from week to week, bedeviled efforts to develop buying and selling strategies capable of accommodating the unparalleled market volatility.

Until the current year, limit moves in wheat futures were a rarity. Pit traders of wheat futures could recall years afterward the precise dates when futures scored daily limit price moves and the reasons why. This year, limit moves have become commonplace and sometimes inexplicable, and the limits themselves were widened dramatically by the exchanges to ensure business wasn’t brought to a halt by prices locking limit up or limit down. Expanded limits of up to $1.35 a bu, compared with 30c before the surge, were allowed when market volatility was the most severe.

Weather was a principal culprit triggering the gains in U.S. and world wheat prices to levels never before imagined let alone traded. Australia saw two consecutive wheat crops ravaged by drought. The European Union crop last year disappointed both with regard to size and quality. Canada in 2007 harvested 5 million tonnes less wheat than it did the year before.

The timing was poor for the production shortfall. World demand for wheat, particularly for use as food, continued to expand. The world’s consumption of wheat has exceeded its production in six of the last seven years.

World wheat buyers encountering limited exportable supply and even restrictions on exports set at various times this year by Argentina, Russia, Ukraine and most recently Kazakhstan, were forced to seek wheat from the United States despite record prices. The U.S.D.A. on April 9 projected U.S. wheat exports in the current marketing year at 1,275 million bus, the largest outgo in 15 years.

Pressing demand, limited supply and waves of speculative capital flowing into wheat markets made for a potent fuel for skyrocketing prices.

Just how tight is tight?

The U.S.D.A. projected world wheat stocks at the end of 2007-08 at 112.5 million tonnes, which would be the lowest world wheat inventory at the end of a marketing year since a similar amount was held in world stores at the end of 1981-82. The world wheat ending stocks-to-use ratio, a measure of how tight supply is compared with use, was projected at 18.2%, which was the lowest in U.S.D.A. records that extended back to 1960-61. In other words, world wheat supplies have never been tighter.

The stocks situation in the United States was even tighter than on a world level. The U.S.D.A. projected U.S. wheat stocks on May 31, the end of the 2007-08 crop year, at 242 million bus, down 47% from the previous year. It would be the nation’s smallest wheat inventory at the end of a crop year since 1947-48, when the United States was feeding not only itself but many other nations emerging from the devastation of the Second World War. The U.S. wheat ending stocks-to-use ratio for the current year was projected at 10.2%, the tightest since 1946-47.

In the extraordinary price surge in the U.S., it was the hard red spring wheat market that left veteran industry observers in stunned disbelief. Virtually overnight, the $2-a-bu range (between $3.50 to $5.50 a bu) that typically separated a wheat bear market from a bull market became but a memory as the Minneapolis May future touched $19 a bu and the July contract reached $15.50 in late February.

The impact was keenly felt by flour buyers. The price of high-gluten flour surged from an average $26.50 a cwt in December to a peak of $49.20 a cwt in February. Delivered prices of sacked flour, a specialty mainstay of "mom and pop" retail bakeries, climbed well above $50 a cwt.

More recently, the price of high-gluten flour has declined nearly as precipitously as it rose. The April 18 price of $31.70 per cwt was down $17.50 from the peak of $49.20 a cwt, though it was still well above the year-ago price of $16.85 a cwt. The recent price decline was attributed, in part, to a rationing of demand among bakers finding ways to reformulate products using other flour grades.

The prices of those other flour grades also were at record levels. The April 18 price of bakers standard patent flour, Kansas City, was $25.65 a cwt, compared with a Feb. 29 high of $32.95 and a year-ago price of $12.95 a cwt. The April 18 price of cracker flour, Chicago, was $20.40 a cwt, down from a March 14 high of $28.30 a cwt and compared with a year-ago price of $12.95 a cwt. The price of spring standard patent in Minneapolis on April 18 was $27.70 a cwt compared with a Feb. 22 high of $45.20 and with $13.85 a cwt as the year-ago price.

Hope for further relief from record prices hinged on 2008-09 U.S. and world wheat production.

The International Grains Council on March 28 projected global wheat plantings for 2008-09 to increase 2.5% in response to record prices. The I.G.C. forecast world wheat production in 2008-09 at a record 646 million tonnes, up 42 million tonnes from 2007-08. World wheat consumption was projected to increase as well and reach a record 630 million tonnes compared with 612.5 million tonnes in 2007-08. World wheat ending stocks in 2008-09 were projected to rise 16 million tonnes from 2007-08, to 128 million tonnes, with most of the increase in the five major exporting countries.

The U.S.D.A. on March 31 projected U.S. wheat planted area in 2008 at 63.8 million acres, up 6% from 2007.

The projected 2008 wheat area was the largest since 65.8 million acres in 1998. If the projection is realized, wheat plantings will have increased for three consecutive years from the 33-year low of 57.2 million acres in 2005. Assuming normal weather, the U.S. wheat crop should be much larger than a year ago.

"Prices should continue to work lower into the North American wheat harvest," said Paul Meyers, vice-president, Connell Co. "If weather holds good during the next 60 days across the Northern Hemisphere and especially if hard red winter wheat receives normal rainfall, September wheat futures prices could dip below $7.50 a bu in Chicago, below $8 in Kansas City and to the low-$8 range in Minneapolis."

Mr. Meyers said wheat prices likely were at a new plateau with a price range in 2008-09 between $6 and $10 a bu compared with the $2.50 to $4 a bu as the range common not so very long ago. He pointed out several factors militated against wheat prices dropping to more historical levels anytime soon. Among these were higher input costs, particularly of fuel and fertilizer, the difficulty in rebuilding U.S. and world wheat stocks from the current historically low levels and forecasts for continued high corn prices because of demand from the ethanol sector.

Mr. Meyers pointed out world wheat stocks dropped about 35 million tonnes from 2005-06 to the projection for the current year. A record crop in 2008-09 of 640 million tonnes could increase stocks by 10 million to 15 million tonnes. It could take three consecutive record world wheat crops just to bring world stocks back to levels of three years ago, he said. And even if that were to happen, the world might not see wheat prices below $6 or $7 a bu, Mr. Meyers suggested.

Additionally, Mr. Meyers said he didn’t expect the current uptrend in wheat plantings to be sustained.

"This could be the highest wheat acreage we’ll see in the U.S. for the next three or four years because of higher prices of competing crops such as corn and soybeans," he said.

A return to year-to-year declines in wheat area would make it difficult to keep U.S. supplies at comfortable levels. Early release of non-environmentally acres currently idled under the Conservation Reserve Program could slow the anticipated decline in wheat acres, he said. Future expansion in wheat area in increases and in production may depend on producers in other nations.

This article can also be found in the digital edition of Food Business News, April 29, 2008, starting on Page 32. Click here to search that archive.

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