|It’s All About Margins
(June 1, 2010) An economist’s favorite word might well be ‘marginal.’ The excitement lies in the theory that if the marginal revenue (from the sale of one more feeder) exceeded marginal cost (the cost of producing one more feeder), the producer could increase his/her profit producing an extra unit of output.
If this is the case, the very high prices we’ve seen this year could translate into healthy margins which might be the impetus for flock expansion. We might very well see inventory gains next January.
With continued tight supplies and strong competition for feeders, “for the producer, 2010 will be a wonderful year,” (Drake’s Market News, Feb., 2010).
Beginning in April we historically see feeder-lamb prices soften into the summer. Given averages over the past five years, feeder-lamb prices at auction are 0.2-percent higher in the second quarter as supplies tighten, but then fall 8 percent in the third quarter as supplies become more available.
Despite some seasonal softening, feeder-lamb prices were sharply higher through April this year. Between March and April, feeder-lamb prices at auction jumped 11 percent, from $139.69/cwt. to $155.73/cwt. April’s average was 31-percent higher year-on-year.
In early April, Livestock Market Information Center (LMIC) forecasted that third-quarter 60-lb. to 90-lb. Texas feeder lambs could range between $120/cwt. and $129/cwt. – 28-percent higher year-on-year.
It is likely that sheep producers fared better than cow-calf operators last year and will continue to post good returns. LMIC forecasted that returns to cow-calf producers in southern Texas could return to the black after a couple years in the red (4/26/10). LMIC points to stabilized costs and higher calf prices to help rebuilding efforts next year.
The U.S. Department of Agriculture’s Economic Research Service (USDA/ERS) forecasts relatively steady corn prices, ranging between $3.50/bu. to $3.70/bu. during the entire marketing year through August (USDA/ERS, 4/13/10). Corn averaged $3.61/bu. between December and February and $4.06/bu. in 2008/2009.
Ethanol production hit a record high in January 2010. However, continued production – which could put upward pressure on corn prices – is unlikely given poor ethanol returns, higher stocks and lower gasoline consumption growth (USDA/ERS, 4/13/10).
In April, more than 80,000 head of feeders traded in direct trade, many of which were forward contracts from May through October. The average price for forward contracts was $112/cwt. and $136/cwt. for immediate delivery.
Using an enterprise budget borrowed from Dr. S. Ellis at Iowa State University, producer returns are forecasted to remain strong. The net return per head for a forward contracted Iowa feeder lamb in April was an estimated $12.37/head at an average $112/cwt. for 110-lb. (corn at $3.50/bu., wool at $3.12/lb.). If the trade was for more immediate delivery, the price was $136/cwt., weight was 88 lbs. and the return was $8.85 per head.
Returns could differ significantly by producer and region. These are only estimates.
Third-quarter margins can be forecasted using a seasonally weaker feeder-lamb price. LMIC forecasted in early April that third-quarter 60-lb. to 90-lb. Texas feeder prices could fall 9 percent. If prices drop from $136/cwt. to $124/cwt., weights gain to 100 lbs., and all other costs remain constant, the net return per head is $8.17.
The positive returns will hopefully encourage flock expansion.
Cautious optimism might describe the high feeder-lamb market for slaughter-lamb prices also have to stay high for feeders to maintain returns.
Likely propelled by both tight supplies and higher demand, slaughter-lamb prices were sharply higher in the first trimester compared to a year earlier. Between March and April, slaughter-lamb prices on a formula carcass basis strengthened from $222.36/cwt. to $233.40/cwt. ($110/cwt. to $116/cwt. converted live). This represented a 21-percent year-on-year gain.
Slaughter-lamb prices at auction increased from $117.64/cwt. in March to $119.31/cwt. in April – up from $95.09/cwt. last April.
Opposite from the feeder market, slaughter-lamb prices strengthen in the summer. The 2005-2009 trend revealed prices rise an average 2 percent in the second quarter and then another 9 percent in the third quarter to $106.74/cwt. (for formula converted live prices).
In early April, LMIC forecasted that Western direct slaughter-lamb prices could gain 4 percent in the third quarter. If corn and transport remain steady, slaughter-lamb margins will remain in the black.
Likely Expansion in 2010
With higher feeder- and slaughter-lamb prices and good growing conditions, we will likely see some flock expansion efforts. Reportedly, there have been a lot of calls from people looking for bred ewes, pairs or ewes to breed in May and June and the prices reflect increased interest.
Ewes of all ages averaged $136.85/head in April, up 16 percent from a January and February average of $118/head (insufficient price reports in March to compare). Ewe lambs averaged $143.10/head in April, 2-4 year old ewes earned $170.75/head, 5-6 year olds fetched $135.10/head and aged ewes were $98.44/head.
Strong Wholesale Market
Tight supplies and lower imports coupled with some strengthening in lamb demand likely contributed to high first trimester prices in the meat market. Feedlot volumes were low as were freezer inventories. At the beginning of April, cold storage inventory was 16.5 million lbs., down 15 percent year-on-year.
Wholesale values, the gross carcass value, jumped 7 percent in April to $289.23/cwt. This is the highest level since the beginning of Mandatory Price Reporting data collection in August 2001.
The leg, trotter-off, gained 6 percent to $339.62/cwt. The loins, trimmed 4x4, jumped 14 percent in April to $393.43/cwt. The shoulder, square-cut, gained 2 percent to $231.34/cwt.
After a weak year for the rack in 2009, the rack rebounded to its five-year average in April. Between March and April, the eight-rib rack, medium, gained 8 percent to $553.91/cwt. – which was 14-percent higher than a year ago.
The carcass market trended up between January and April. Between March and April, the East Coast carcass market jumped from $244/cwt. to $262.56/cwt. – up from $242.75/cwt. a year ago.
The carcass to cutout margin jumped 38 percent year-on-year in the first trimester, from $12.38/cwt. to $17.14/cwt. An unknown in the industry is what is happening with retail margins. Retailers might have the most volatile margins given their reluctance to change sticker prices. The strong meat market and indicators that consumers are beginning to spend again bode well for lamb processors to pass on higher prices while maintaining healthy margins.
In the first trimester of the year, slaughter numbers gained 5 percent to 800,792 head. Production gained 5 percent to 55.70 million lbs.
Imports and Domestic Production Down
Meat and Livestock Australia reported that lamb exports to the United States in April were down 6 percent year-on-year (5/6/10). In fact, April represented the fifth consecutive month of lower year-on-year lamb exports. Reasons cited were the strong Australian dollar, high prices and tight supply. While the United States has long been a favored export destination for Australian lamb, demand in Southeast Asia and Greater China are increasingly competitive. Australian lamb exports to these regions jumped 13 percent in April year-on-year.
First trimester U.S. lamb supplies were tight. In the first 16 weeks of the year, slaughter numbers were down 2,000 head at 759,792 head year-on-year. Lamb and mutton production was down 100,000 lbs. year-on-year to 53 million lbs. Dressed weights average 69.76 lbs. in the first 16 weeks of the year, down from 71.35 lbs. a year ago.
In early April, LMIC forecasted that domestic production could fall 3 percent annually in 2010 to 171 million lbs., lamb and mutton imports could fall 9 percent to 156 million lbs. and total supply could fall 10 percent to 384 million lbs.