A New Normal?

By: Luke Schwieterman

Cash cattle moved at $170 the week of October 24, a new all-time record high. The next burning question is where prices go from here. What we know is that cattle supplies are tight in the fourth quarter and look to get tighter yet during the 1st quarter of next year.

This will mark the fourth year that 1st quarter production is less than the same quarter of the previous year. The chart is a graphic representation of as many years of drought. Complicating the supply of cattle is the expansion of the cow herd, which reduces the available cattle for slaughter even further. Based on just this small amount of information, you could conclude that 1st quarter prices will be supported by the lack of supply. The argument that beef is pricing itself out of the marketplace is relative to many factors. Since beef supply is projected to be down 6%, demand has to decrease a like amount. That is basic economics. In other words, as supply decreases, price must increase so that demand is reduced and has price ever increased. Retail price is now at record levels as well.

You may notice that reductions in retail price are generally small compared to the increases. It seems logical, based on history, that even though retail price has reached record levels it is not likely that price will go back to the lower levels seen in 2012. The point is that higher beef prices are probably here to stay and should help support higher beef and cattle prices for the future. What seems to be created in this shortage of cattle is a “new normal” meaning the new range in cattle price could be 150 to 170(?). The likelihood of cattle going back to less than $100 seems remote.

We continue to be bullish this market until the 1st quarter passes then cattle supplies should increase. Until then the recommendation is to use put options for price insurance. The marketplace seems nervous about the Middle East, Ebola, and the Stock Market. In these volatile times, we feel it is prudent to hedge all cattle on feed because outside news can have a direct effect on the perception of beef demand. We would also suggest buying call options on feeder cattle that you intend to buy over the next six months as a hedge against rising feeder cattle prices. On feeder cattle that you own, we suggest put options as price insurance.

Feed costs are a wild card going forward. We’ve just seen a rally in all the grains when supplies are purportedly in excess. It could be that $3.20 corn was cheap enough to inspire demand even though $2.80 corn is what we’ve been told to expect. To keep farmers from planting more acres of beans next year and reduce corn acres, the market needs to increase the value of corn. Next year’s crop outlook will probably drive current price more than it has in previous years. If the weather becomes marginal and farmers shift acres to beans because of cheaper input costs, the price of corn will likely go up. We would suggest buying call options on corn on pull backs.

This material has been prepared by a sales or trading employee or agent of Schwieterman, Inc. and is, or is in the nature of, a solicitation. This material is not a research report prepared by Schwieterman, Inc. Research Department. The risk of loss in trading futures and/or options is substantial and each investor and/or trader must consider whether this is a suitable investment. Past performance, whether actual or indicated by simulated historical tests of strategies, is not indicative of future results. The information contained herein is based on data obtained from recognized statistical services and other sources believed to be reliable. However, such information has not been verified by us, and we do not make any representations as to the accuracy or completeness. All statements contained herein are current opinions which are subject to change. You may visit our web site at www.upthelimit.com

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