By JULIE STEPANEK SHIFLETT, PH.D.
Juniper Economic Consulting

(August 1, 2012) In June, the Senate passed a dramatically different Farm Bill: eliminating direct payments in favor of price support and crop insurance. The bill makes the highly subsidized crop insurance program the primary safety net when crop prices drop. The government pays for about 62 percent of crop insurance payments at an annual cost of nearly $10 billion a year (The High Plains Journal, 7/2/12). In increasingly concentrated and interconnected feed, fuel and lamb retail markets, sheep and lamb price protection can help protect revenue. The sheep and lamb industry has only one risk-management tool available to protect against unexpected declines in market prices, the Livestock Risk Protection-Lamb (LRP-Lamb) program.

LRP-Lamb is designed to insure against an unexpected decline in the actual slaughter lamb price below the expected established coverage price. LRP-Lamb’s participation had doubled in the last couple years according to Burdell Johnson, Food and Fiber Risk Managers (FFRM). Essentially, if the actual national market formula price is below the coverage price at the end of the policy, an indemnity equal to the difference is paid to the insured producer or feeder.

The actual ending values are based upon the weekly average prices for “Formula Live Lambs” as reported by the U.S. Department of Agriculture’s Agricultural Marketing Service (USDA/AMS).

Sheep producers may select from a variety of coverage levels and insurance periods that match general feeding, production and marketing practices. Coverage is available to producers and feeders in 28 western and midwestern states.

The price a producer or feeder actually receives for his or her lambs doesn’t factor into LRP-Lamb. Therefore, a local market price might have weakened, but the national price ended up stronger than the coverage price, paying the insured nothing. “LRP-Lamb Education” is an overview of how the program works (available at  http://sheepindustrynews.org/LRP_LAMB/).

Like other crop and livestock insurance programs, LRP-Lamb is federally subsidized. The premium paid for coverage is less due to a portion paid by the government to encourage insurance use and make it more affordable. Subsidy levels increased with the renewed USDA’s Risk Management Agency (RMA) LRP insurance programs beginning July 1.

While the subsidy offers an incentive to participate, LRP-Lamb was not offered for the last few weeks as of early July due to the lack of reported pelt prices. LRP-Lamb is based upon a slaughter lamb price prediction model in which pelt prices are an integral component because slaughter lamb offers are partially a function of pelt prices.

Pelt Trades Slow, Impede LRP-Lamb
Without reported pelt prices, the insurance program ground to a halt with no new policies issued.  In addition, the lack of established pelt trades adds uncertainty to the slaughter lamb market. Packers offer slaughter lamb prices based, in part, on what they receive for pelts. Global economic conditions have sharply reduced demand for pelts from all sheep producing countries.

USDA/AMS reported in mid-June that heavy offerings were met with very limited trade and sharply lower price offers. Many pelts lost quality in June due to increased cockle, thinner wool with some wool slipping. Thus, a larger percent of pelts were being ‘pulled,’ which means lesser value to the processor. The USDA/AMS reported that the best Imperial pelts were at $8 per piece to $10 per piece in June, down sharply from a year ago. Large-sized, full-wool pelts were in the $7 to $9 range.

USDA/AMS reported that heavy offerings of pelts from Australia, Ireland and England likely saturated the market, pushing global prices lower. Meat and Livestock Australia (MLA) confirmed in late June that there was still sufficient supply available with the strongest demand remaining on the better quality lines. By early July, many of the heaviest Australian pelts had lost 25 percent to 50 percent in value within a month (MLA, 7/6/12).

The relatively stronger U.S. dollar was also likely a contributing factor to an inactive U.S. pelt market. Most of U.S. pelts are exported and the stronger dollar makes U.S. pelts less competitive in international markets.

Measuring Price Volatility
The lamb industry is currently coming off a bubble last year that set record high prices. The ‘correction’ this year has seen some sharp price drops, yet prices are still historically high. What might be a new trend in all these ups and downs is increased price volatility.

Standard deviation gives us a standard way of knowing what is normal, and what is extra large or extra small.  The standard deviation is a measure of how spread out prices are. That is, the standard deviation is a measure of how widely values are dispersed from the average value (the mean).

In the 24 months to July 2012, the formula slaughter lamb value (live-converted) averaged $163 per cwt. with a weekly standard deviation of $21 per cwt. This means that 68 percent of all the prices in this two-year period fell between $142 per cwt. and $184 per cwt. ($163 per cwt. plus and minus $21 per cwt.).

By comparison, in the previous 24-month period to mid-2010, the average was $105 per cwt. with a standard deviation of $7 per cwt. Sixty-eight percent of the weekly prices reported in this period ranged from $98 per cwt. to $112 per cwt. 

The 60-lb. to 90-lb. three-market feeder lamb market (Ft. Collins, Sioux Falls and San Angelo) has also exhibited heightened volatility in recent years. In the two years to July 2012, the average was $193 per cwt. but with a standard deviation of $31 per cwt. In the previous 24 months, the average was $113 per cwt. but with a standard deviation of $15 per cwt.

In 2010, the average week-to-week price volatility in the three-market feeder auction price series was $1.71 per cwt., $0.70 per cwt. in 2011 and -$4.82 per cwt. in the first-half of 2012. In one week, a producer selling feeders in 2012 could lose $4.82 per head on a 100-lb. feeder. On a lot of 100 head this equates to $482.

Selling on a Grid
One way to add value in a risky and softer market is to sell slaughter lambs on formula. Pete Anderson, Ag Knowledge Services, commented with respect to beef, “Grid marketing of fed cattle is one way to get paid a premium for producing something that is superior to the average,” (BeefSite.com, 7/4/12). Live weight pricing at auctions, for example, pays on weight only and cannot reward quality. Anderson added, “Remember, it is not enough to create cattle with high value. You need to find a way to capture that value and put it in your pocket.”

A formula, or grid, often offers a base value and then a set of premiums and discounts are added or subtracted from that base. In the beef industry, the Choice-Select spread is often used in grids to reward quality in a lot of cattle. In the sheep industry, discounts might be given for weight and premiums for yield grade. An emerging carcass characteristic used in breeding stock selection is rib-eye area.

Retail Slowdown
The retail market can offer insights into why the slaughter and feeder markets dropped sharply in June. The industry faced a bottleneck at retail, slowing slaughter of market-ready lambs. Retail was moving product in June albeit likely at a slower rate. Higher incidences of price featuring suggests price discounts were needed to accelerate inventory turnover and get old-crop lambs to slaughter. 

In the first trimester, production was down, but cold storage was up due to slower retail movement. Total lamb availability through March was 1-percent lower than a year ago. In this period, heavier slaughter weights contributed to a 3-percent increase in domestic lamb production, but lamb imports in the first trimester were down 5 percent year-to-year to 42.8 million lbs.

Even with reduced production, cold storage production was up in June, 31-percent higher than a year ago. The number of price specials reported jumped 75 percent this June compared to a year ago. However, the average price of lamb specials was a weighted-average of $7.16 per lb., 12-percent higher than the average lamb special last June. If retailers bought high, there might be reluctance to drop prices further. Part of the concern is that lamb demand is inelastic. This means that any price discount will be met with a less-than-proportional increase in lamb sold.

Feeder Lamb Market Retuning
At $152.75 per cwt., 60-lb. to 90-lb. feeder lamb prices at auction were down 16-percent monthly and down 30 percent from a year ago. I’m sure everyone remembers when feeder lambs at auction hit a record $228 per cwt. last May. The three-market average consisted of San Angelo ($141 per cwt.), Sioux Falls ($156.49 per cwt.) and Ft. Collins ($160.75 per cwt.). 

By the end of June, the three-market feeder lamb average was $117 per cwt., below the slaughter lamb auction average of $119 per cwt. Not since mid-2008 have we seen this reversal. Feeder lamb prices can run high given perceptions of tight supplies and similarly, prices can tumble if feedlot turnover slows and feed costs are high.

The volume of feeder lambs in direct trade was down 55 percent in the six months to June to 65,600 head. This is 64-percent below the mid-year average for the past five years.

Feeder lamb prices in direct trade averaged $137.50 per cwt., down 4-percent monthly and down 28 percent from a year ago. The volume traded was up 13-percent monthly to 20,300 head — 74 percent of which came from California. 

With the cost of feed high and uncertain, feeder lamb trade might remain slow for some time – especially since old-crop lambs are still waiting for slaughter. By early fall, we might see some renewed interest. The Livestock Market Information Center (LMIC) forecasted in early July that the three-market average feeder lamb price for 60-lb. to 90-lb. feeders could strengthen by 1 percent in the third quarter over last year’s value.

Slaughter Lamb Market Adjustment
The slaughter lamb market continued its correction from last year’s bubble. The market softened seasonally into June and was down about 25 percent from a year ago, yet still higher than 2010 values.

Live, slaughter lamb prices were down 5-percent monthly to $134.09 per cwt. and down 28 percent from the previous year. San Angelo was the lowest-priced auction at $116.20 per cwt., down 8-percent monthly. South Dakota was the highest-priced market at $141.05 per cwt., down 4-percent monthly. Iowa averaged $138.63 per cwt., down 11 percent. Ft. Collins was not well tested in June.

In June, the market accelerated its slaughter of heavier carcasses. The volume of formula slaughter was up 5 percent in June to 54,000 head and dressed weights were down 5 percent to 88.54 lbs.

Slaughter lamb prices on a carcass-based formula averaged $290.95 per cwt. ($146.88 per cwt. live-equivalent), down 2-percent monthly. By comparison, June’s average was 22-percent lower than a year ago, but still 19-percent higher than June 2010.

Slaughter lamb prices in negotiated sales averaged $146.86 per cwt., down 3-percent monthly with 3-percent heavier weights at 142.90 lbs.

LMIC forecasted in early July that slaughter lamb prices (by carcass weight) could strengthen in the third quarter, but still remain 5-percent lower than a year ago.

Pasture and Range Conditions Poor
This summer has been hot and dry for many parts of the country. LMIC reported in late June that the dryness this year has been less severe, but more widespread. The drought monitor indicated 63 percent of the United States had some type of drought condition, contrasted to 2011 at this time when only 33 percent of the country was under some type of drought condition (6/25/12). The West, Corn Belt and the Great Plains have significantly more dryness this year than in 2011 (6/25/12).

The dryness doesn’t bode well for sheep-feed prices and availability. Corn was planted early and early emergence looked promising for a record crop, but crop conditions took a sharp turn for the worse in June. USDA’s Economic Research Service (ERS) reported in early June, “Early season crop condition ratings provide little indication of final yields as rainfall and temperatures over the next several weeks will ultimately determine this year’s production,” (6/14/12). In late June, USDA announced that 48 percent of the corn crop was in good or excellent condition — the lowest 26th crop week rating since the 1988 Cornbelt drought.

The CME Group reported in early July: Continued dry, hot weather has a number of analysts dropping their corn yield estimates rapidly.

The ERS forecasted corn prices for the 2012/2013 year ranged from $4.20 per bu. to $5 per bu. (6/14/12). Jim Hilker, Ph.D., Michigan State University, reported that in December 2012 there is an 80-percent chance that the price of corn will range between $4.69 per bu. and $8.17 per bu.  (6/27/12). Corn slipped 1 percent in June to $6.25 per bu. and was 2-percent lower than a year ago.  

An additional concern for livestock producers is that if corn yields come in lower, ethanol could be a weighty competitor in rationing corn this fall. Weekly reports from the U.S. Department of Energy’s Energy Information indicate ethanol production is not slowing in spite of tight corn supplies and diminished producer margins. While domestic ethanol consumption has been down this year, demand for corn is robust due to higher-than-expected ethanol exports this year.

Across much of the United States hay fields are in need of moisture. The USDA/AMS in Kansas reported that the demand for hay and other roughage is increasing (7/3/12).

Livestock producers are continuing to move cattle or are supplementing cattle on grass with hay. USDA/AMS in Texas commented that a third cutting is questionable if rain is not received soon (6/29/12). Alfalfa was $201 per ton in June, down 7-percent monthly and 12-percent higher from a year ago. Other hay was an average $133 per ton in June, down 9-percent monthly and 18-percent higher year-on-year.

Heavier Weights Boost Production
Increased production, due to heavier weights and greater slaughter numbers, in the first half of the year, along with a retail slowdown and higher cold-storage inventories might explain lower slaughter lamb prices. Lamb production was an estimated 69.4 million lbs. through June, 7-percent higher year-on-year.

Lamb slaughter was an estimated 916,255 head through June, 1.5-percent higher year-on-year. Escalating feed costs last fall and dry pastures prompted increased feedlot placements that have come to market this year, boosting slaughter lamb numbers. At 151 lbs., live slaughter weights in the first-half of the year were 5-percent higher than the average 144 lbs. a year ago. In mid-May, live weights of federally inspected slaughter hit a record high of 159 lbs., but backed down to 154 lbs. by late June.

Estimated mutton slaughter by mid-year was 56,526 head, down 15 percent from the previous year. Estimated mutton production was 4.1 million lbs., down 10 percent year-on-year. By June, slaughter ewe prices in San Angelo averaged $42.74 per cwt., weakened seasonally, reached a three-year low, yet were 11-percent higher than its five-year average for June.

Meat Market Down Monthly, yet High Historically
While the lamb meat market historically softens by late summer, both the carcass and gross carcass markets softened in June. 

The East Coast carcass market averaged $352.10 per cwt., 4-percent lower monthly and 9-percent lower than a year ago. However, the carcass market was still 30-percent higher than its June five-year average. Roughly 17 percent of weekly federally inspected slaughter is traded in the carcass market.

As the industry moved into summer, most primal cuts, apart from the loins, took a tumble and were sharply lower than last summer. Wholesale lamb (gross carcass value) averaged $343.89 per cwt., down 4-percent monthly and down 15 percent from a year ago. The gross carcass value in June was still 14-percent higher than its five-year average for June.

In June, the loins gained as summer temperatures warmed and grills were dusted off. The loins, trimmed 4x4, averaged $538.40 per cwt., up 4-percent monthly and down 1 percent from a year ago.

Other primals weakened into early summer. The leg, trotter-off, was $401.19 per cwt. in June, down 4 percent and down 8 percent year-on-year. The shoulder, square-cut, was $232.61 per cwt. in June, down 9 percent from May and down 27 percent from the previous year. The eight-rib rack, medium, was down 6-percent monthly at $645.11 per cwt. and was down 29 percent from a year ago.

The proposed increased lamb assessments by the American Lamb Board will help promote American lamb. One crucial element of demand is promoting lamb’s unique taste and convenience at food service and retail. This is the one element of demand that the industry can influence.

The National Restaurant Association’s Restaurant Performance Index (RPI) for May indicated slowing, but still positive growth in the restaurant sector (CME Group, 7/3/12).

There were fewer customers in the door, but each was spending more. The CME Group commented that this is a logical result of higher wholesale protein prices this spring.

Overall, the percentage of restaurant operators expecting economic conditions to improve grew by 2 percent to 36 percent during the May.

A recent American Lamb Board study, conducted by Datassential MenuTrends, reported that lamb entrees remain an essential item at fine-dining restaurants, found on more than two out of three menus. Additional good news is that lamb’s appearance on quick-service, midscale and casual-dining chain and independent menus has increased during the last four years.

The lamb industry is making strides to add convenience to its product at retail — an attribute consumers desire. Superior Farms offers Mediterranean Grill Lamb and Beef Burgers, a “combination of ground lamb and ground beef preseasoned patties with garlic, olive oil and a hint of lemon,” (www.wal-mart.com). Superior Farms also offers Leg of Lamb Seasoned with Rosemary, Garlic and Pepper. It’s a meal that cooks in a bag.