Soybeans can not maintain their lofty levels relative to the grains
The month of November proved to be a very interesting month for agricultural commodities. After starting with a traditional focus on the U.S. harvest and the record yields in corn and soybeans, our markets were impacted mid-month by a Chinese speculative buying frenzy and late month by the combination of the EPA’s increased biofuels mandate, the USDA’s 10-year Baseline projections, and OPEC’s agreement to cut production by 1.2 million barrels per day.
Our markets were impacted very unevenly by those events with soybeans rallying strongly and corn and wheat trading sideways to lower. We think they have created price anomalies that are not sustainable over time and thus represent trading opportunities.
The Chinese speculative buying frenzy was prompted by a weakening yuan and a fear of domestic inflation. The common thread in most of the markets that were impacted is that China is a major player and the world’s top user or importer. In agricultural markets that description most clearly applies to soybeans, where they import 70% of all the soybeans that move internationally.
The open interest in CME futures confirms its narrow focus, with soybean open interest at 4-1/2 month highs. Meanwhile corn open interest is at 15 month lows. The impact on price relationships between these two has been as one would expect. The ratio of the soybean price divided by the corn price is above 3:1 in nearby futures and close to 2.7:1 in the new crop contracts. The nearby ratio of soybeans divided by wheat is at levels not seen since the 1970’s.
It is our opinion that soybeans can not maintain their lofty levels relative to the grains. This spot price structure is reducing soybean meal’s share in various feed rations. At the same time the forward prices are moving a massive number of acres out of corn and wheat production and into soybean production. U.S. wheat acres are at their lowest level in over a century and are 41 million below their 1981 high. Meanwhile, soybean acres are projected at a record high 86-89 million, thanks in part to another 3-5 million switching from corn next spring.
There is ample historical evidence for such a switch, but we feel like the switch will be even greater than expected for four reasons: 1) this is a record ratio for this early in the year, which allows farmers to avoid costly fall nitrogen applications needed for corn; 2) not only does corn require far more capital but it also pencils out at a loss versus a profit in soybeans; 3) nationally, 2016’s farm income is one-half of 2013 and ag lenders are much more engaged; and 4) farmers have a much more favorable view of soybean yields following last year’s record yields.
Physical, or “cash,” markets are also responding to this futures price anomaly. Soybean basis levels at domestic processors are 15-40 cents below normal levels and CIF barges for January are trading 20 cents below delivery values. Brazil, with its larger than expected carryout, is not immune to the futures rally. Their soybean export program traditionally starts in March, but for the past two weeks they have done the lion’s share of the January and February business to China. With the crushers well supplied, soybean meal is now feeling the impact of artificially high futures. Domestic meal values in the U.S. and export values in Brazil and Argentina are all at multi-year lows. U.S. soybean meal imports are looking more and more like a possibility.
The EPA’s unexpected increase in the advanced biofuels mandate appears to have done much more for soybean oil than for soybeans. They increased that mandate by 280 million gallons more than they had suggested in their preliminary proposal in May. That should lead to an additional 600-700 million pounds being used for biodiesel this crop year. Although oil share has rallied 3% in the week since the announcement, it will have a limited impact on total soybeans crushed due to the inability to sell the meal. Crushed soybeans are 80% meal.
Despite record low U.S. acres, wheat futures continue to reflect the reality of a record world inventories and a U.S. carryout that exceeds six months of usage. Many of us have approached wheat cautiously because of the out-sized speculative short position at the CME. This is particularly true since the drop in futures has helped U.S. HRW and SRW to become competitive. Unfortunately, we don’t appear to be able to increase our exports by more than the 200 million bushels the USDA has already penciled in. There was some optimism as Russian prices rallied for the 10th week in a row, but they were still able to sweep this week’s Egyptian tender. The reality is that Managed Money has been short wheat futures since July 2015, and they’ve been short over 100K contracts for 21 weeks in a row, but the market no longer seems to care.
Tight logistics and slightly better prices in the Black Sea might have created a window of opportunity for the U.S., but the southern hemisphere wheat exporters have now become much more aggressive. Australia appears to have a record crop of 30-32 million metric tons (MMT) and they are anxious to reclaim their Asian customers.
Higher ocean freight prices are giving them a big advantage versus their Black Sea and U.S. competitors. Argentina has also stepped to the plate and they recently sold 11% protein to Algeria and Nigeria and feed wheat to Indonesia.
The recent drought-breaking rains in the southeastern U.S. have helped December futures reach new lows and could take us to the lows that were set in August on the continuous chart. This has pushed the Chicago wheat-corn spread to its narrowest level in 4-1/2 years. Unfortunately, it’s difficult to generate much domestic wheat feeding this time of year. Wheat feeding works best when the feeders can originate directly from farmers or they can source wheat with significant discounts. Most wheat is now in commercial hands and its owners look forward to earning most, if not all, of the 55 cent December-July spread.