Behind the scenes with Jacoby’s dairy traders (part 1)


On this two-part edition of The Milk Check, listeners get a seat at the table during our mass balance report meeting, held after the release of monthly milk production numbers. Our traders gather to evaluate the data, forecast class allocations, share what they’re hearing from buyers and sellers, and chart price data to predict market developments. 

Our regular cohosts, Ted, T3 and Anna, are joined by Don Street, director of global strategy; Gus Jacoby, executive vice president of the Fluid Dairy Group; Jacob Menge, director of risk management; Brianne Breed, vice president of cheese and butter sales; Joe Maixner, cheese and butter sales manager; and Diego Carvallo, director of dry dairy ingredient trading.

In part one, we evaluate the fundamentals of the dairy markets and what the monthly production numbers mean for different industry sectors.

In part two, we will look at anecdotal evidence in the wider marketplace, such as the consumer price index and international trade, to forecast dairy’s future in the global economy.

Anna: Welcome to “The Milk Check,” a podcast from T.C. Jacoby & Company where we share market insights and analysis with dairy farmers in mind. Today on “The Milk Check,” we’re doing things a little bit differently. Every month, the T.C. Jacoby & Company, we have a conversation that we call the mass balance report, and it happens right after the monthly milk production numbers come out. We get all the available traders in the company together to discuss what the most current reports and numbers mean. This month, our listeners will get an opportunity to eavesdrop on that conversation. This edition will be released in two parts, so be sure to listen to both to get their thoughts on a variety of topics, from production and utilization to inflation.

T3: Thanks, Anna. And thank you everybody for listening today. So when you’re listening to our traders talk, the thing to keep in mind is a lot of times when we’re trying to get our head around what we think prices might do, there’re really three elements to that process.

The first element is evaluating the fundamentals. As you hear Don Street talk about what the milk production report has done and what we think milk production is going to do and where milk is gonna be allocated between the different classes of milk, you’re really gonna be hearing us talking about the fundamentals.

The second part that goes into our evaluation is what I call the anecdotal evidence, which is the fact that our traders are talking to buyers and sellers of dairy products in the marketplace every day. And what we’re hearing from those buyers and sellers also goes into our opinions of what the market might do.

The final thing that comes into play is where we are evaluating what we call the technical information. All of the futures and options markets we have in the dairy industry today and all of the spot auctions that we have in the industry today ultimately create a series of price data. And as you chart that price data, those charts often give you signals as to what you think this market might do next. And when you hear Jacob Menge, our director of risk management, talk, that’s mostly what you’re going to be hearing, him looking at those charts and telling us what those charts are hinting at. So I think this conversation today is gonna be a very interesting conversation, and I hope you enjoy it as much as we do.

T3: Joining us today is Don Street, our director of global strategy.

Don: Hey, Ted. Glad to be here.

T3: Gus Jacoby, executive vice president of our fluid dairy group.

Gus: Hello, thanks for having me.

T3: Jacob Menge, our director of risk management.

Jacob: Pleasure to be here.

T3: Brianne Breed, our vice president of cheese and butter sales.

Brianne: Hi there. Thanks for having me.

T3: Joe Maixner, sales manager for cheese and butter

Joe: Hi there, everybody.

T3: And Diego Carvallo, our director of dry dairy ingredient trading.

Diego: Hello, everyone. Thanks for the invitation.

T3: Thanks for joining us. Don, why don’t you take it away?

Don: Thanks, Ted. So we now have the January milk production estimates from USDA. And a big surprise, everybody in the industry was expecting January milk to be up 3% year on year, following a very strong December number at 2.9% up. The big surprise was a revision by USDA on California milk production, which in December actually went from positive to negative and was also negative year on year in January. This left the January production increase estimate at 1.8% versus everybody’s expectation at 3% — a lot less milk to be processed than what we thought.

But similar to what we talked about last month, Cal numbers, as we’re rolling forward, are kind of up 1% over prior year, but the growth over prior month is almost zero, almost no growth. They’re up 6,000 or 8,000 head each month.

And the big change by USDA is the change in milk per cow. December scaled back to 2.6%, January that everybody thought would be 3% up is only up 1.8%. February, going to 28 days this year versus 29 last year, we’re still going to be up I know 1% on cows and maybe 1% on milk per cow. But then you have the 3.45% adjustment on one last day, so it’s going to be down. But it’ll be up on same-day basis.

And then March, well, I’m at 2% up, right? And this is a big drop. It’s all if the USDA numbers are correct or re-corrected, you’re only up 2%. And we have now full-year 2020 numbers, Class I, just flat. Class II was up pretty decently for the year. This is no change. It’s just more confirmed by the 12th month of data. When you go to cheeses overall, really low growth, 4/10 of a percent. But American was up pretty solid at 2%, cheddar even more. All the Italian styles were down. I think everybody knows this, but we produce more Italian-style cheese than American types and have for quite a while. And then Class IV, no real change here. Butter’s pretty strong, non-fat and skim pretty much in line. NPC had a gangbuster year on volume, on growth.

So what do I think is happening?

Well, the first thing is 2% growth for a while rather than 3%, and with the caveat that April will be really screwy because last year, April production fell with the imposition of quotas, particularly in the Southwest.

Will Italian cheese production gain production growth, pull more milk? I think that’s a big question. You have the St. John’s plant, if it were running full year at 8 million pounds a day, it would be a 5% increase in American-type cheese production. So let’s say it was staggered production ramp up, it’ll be 3% up, provided nobody else produces less.

And then finally, total cheese, if it were to go up 3%, I’m not suggesting that, requires 1.5% more milk. So then you start to think, well, maybe this thing is starting to shift to be a tighter market.

January milk, December products. Class I was actually up in December. Class II was up. Cheese was up a half percent, and you need a total of 1% more milk. Our production increase in January was 1.8% and that would suggest you would see 5% more butter powder. And what we saw last year, butter was up 6.6%, powder was up 5.2%, 5.3%. If you throw in MPC, powders were up actually, 8%. That’s how you look as of January.

If I try to roll this thing forward more on the basis of what I think will happen, I think fluid milk, there is no growth. I think whatever gyrations we went through with COVID and kids at home, I think that’s back to flat at best for the next three to four months. And then you think, well, OK, ice cream, sour cream, yogurt, cottage cheese can squeeze out some more growth, and that if Italian cheeses come back, grow at 2% or let the total cheese growth be at 2%, then you need 1.5% more milk. And we’re kind of 1% up on cows, 1% up on milk per cow, gives you 2% of more milk. And that, instead of having to put as much milk into Class IV, where you have to grow at 5%, 6%, then your growth is much more modest at 3%. Still more production, but about half of the increase that we were dealing with. So what do you think? What do I have right or wrong, or what would you like to change?

T3: I can’t get away from the 800-pound gorilla question in the room, which is, is the USDA right about California now, or were they right about California a month ago?

Gus: They were desperate to move surplus over the holidays and into January. My feeling is, is that there is merit to California being where they’re at from a growth standpoint.

T3: Meaning that the December numbers were right, not the January numbers that the USDA put out.

Gus: I know that they were long and exceeding their dryer capacity. That’s about all I can say.

T3: So the idea that milk production in California, what did they say? What did the January reports say, Don, that it was now, instead of being up 2.7%, it’s now down 0.7%?

Don: Yes. It went from positive to negative.

T3: So basically, based on what you…your conversations, you’d expect that number to be up 2.7%, not down 0.7%?

Gus: Not back then. Now I haven’t talked to them recently. They haven’t needed to move any product all that bad recently. They were certainly in one of their bigger surplus holidays they’ve been in a long time.

Don: To add to that, cheese production in California in December was down about 4% year over year. So that, in and of itself would give the appearance of more milk in the market. The number in California was still up.

Gus: We do know one major mozzarella maker that is out in California who did not make near as much mozzarella in their facility as they typically do.

Don: Right, and that feeds into these nationalized data numbers, right? Motz is down and California was down, so I think all of that is true.

But, Ted, to come back to your question, I don’t know how we know what’s really right here relative to the USDA numbers. Everybody seems to think there’s plenty of milk, and we’ve seen lots of weakness in prices to confirm that. But is it 2% more milk or is it 3% more milk? And that’s a big difference.

T3: And that’s a hard one, because it’s so hard to get a feel for what’s really going on in the mozzarella market. Big mozzarella manufacturers, if those plants in California are running at 5% lower capacity than last year, the numbers make sense, and that’s entirely possible.

Joe: I would venture to say that maybe that’s possible on the cheese side, but I don’t think on the Class IV side that that’s the case. I think that they’re still running full out, given intel that I’ve heard.

Gus: That makes sense too, right, Joe? Because, for example, in California, where else is that milk gonna go? And you’re talking about a state that has ample Class IV capacity, and they actually contracted a few years ago, and they’re catching up to where they were to fill that capacity.

Joe: Yeah.

Gus: So, that’s a lot of milk or butter powder that’s been made in California that wasn’t made there before.

Don: Well, within the last five years, you have two new butter powder plants. You know, just from my perspective, opinion on this, I think we have the potential to be much tighter than the whole milk complex, but it will need a recovery and production of Italian cheese for that to happen. And we’ve talked all last year that that’s a food service impact, and COVID, and shutdowns, and less flow through restaurants, that all contributed to it. And then we’re back to the question, well, how does that recover as we go into summer of ’21?

T3: And that’s a hard one, because to me, the big question is, why is mozzarella and Italian production down as much as it is? Is it a direct result of the food service, fewer restaurants running as a result of COVID, or are there other dynamics at play? We knew going into when the pandemic hit last March that the mozzarella industry was feeling like it was oversupplied. But it seems to have gotten worse during the pandemic and hasn’t come back. Yet, pizza sales, at least from everything I’ve heard, have fully recovered.

Don: Just from the home delivery aspect of Domino’s, Pizza Hut, right, that volume should be up, not down.

Gus: Here’s my explanation to that, Ted, because I think when you really think about it, it’s actually fairly logical. The high-end mozzarella is only consumed when you go out, right? The only mozzarella that’s consistently being consumed through a pandemic at home is your cheaper pizza cheese. And then when you start to think about the actual capacity to make either the cheaper stuff or the high-end stuff, which is you know is made differently, no one is going to invest in capacity for a short-term bump in growth, right?

So there’s only so much capacity out there for the cheaper mozzarella, and you’re just not going to use the higher end mozzarella capacity that…when you can’t sell it, i.e., you know, we talked about the companies that make the high-end pasta filata and those type of things that go to your Dewey’s Pizza or high-end pizzerias. That mozzarella is just not in demand. And as the economy has opened up, it will come back. But it’s certainly not where it was a year ago at this time. That’s a pretty big chunk, and that’s going to only slowly come back until the economy is fully open and the habits of the consumers who go out and eat that high-end pizza are back doing that thing again.

Brianne: I think one other thing that you have to keep in mind is that it’s been difficult to export and a lot of the mozzarella that’s produced, and there’s a good chunk of it, gets exported. We obviously have some consumption decreases here in the U.S. I think it’s probably safe to say that’s happening elsewhere. And then you add on the logistics issues, so it’s just kind of like a double whammy for the mozzarella market.

T3: And pizza in most countries outside the U.S., with the exception of the EU, it’s not a low-income product, it’s a high-income product. People go out and it’s a special meal to have a pizza in Asia. That would definitely make sense.

So your Italians are still getting hurt. Cheddar is doing OK. Milk production is up, but maybe not up as much as we were thinking for the last four or five months.

Don: And last one, fluid consumption has been up, down, sideways, and I think it’s just back to flat.

T3: Yes, but if we’d assume that the world starts moving back towards normal as the percentage of the population that’s vaccinated goes up, you have to believe we’re going to go negative in terms of year-over-year comparisons for Class I.

Don: That would make sense.

T3: And it might be significantly negative, because we’ll be measuring against serious strength during the pandemic.

Don: Some months we were up 4% or 5%, which hasn’t happened for years. And, right, so if you get a heavy restaurant demand, except for very young kids, you’re not going to order a glass of milk at a nice restaurant.

T3: Right. Let’s assume we’re looking at the second half of 2021 and let’s assume milk production during that time is up 1.7%.

Don: I was gonna say 1.5%, but 1.7% is good.

T3: And let’s assume Class I in the second half of the year is down 5%, Class II is up 2%. Does that sound right?

Don: You know, I think for years it was flat 2%. It’s, I think maybe, during the past year, people have rediscovered that some of these products are pretty good and they enjoy them. So I think you could see some continued growth there.

T3: All right, so we’re up 2% in the second half of the year on Class II, we’re up 2% on Class III. At 1.7% milk production increase, we’re up 9.1% on Class IV in the second half of the year. That’s a big number.

Don: That is a big number.

Ted: But I would dispute the 5% Class I.

T3: I would agree.

Ted: I think that’s overly bearish. I guess my own personal opinion would be that it would be relatively flat.

T3: I think that there is a positive effect there, but keep in mind, we will be measuring against extreme strength. Because when you compare April of this year to April of last year, everybody will have been closeted up at home last April compared to this April. And that especially gets true when you get into May and June.

Ted: Yeah, but the issue is whether they all of a sudden stop drinking milk, which they’ve been drinking for the last year.

T3: If they’re not at home, I would argue, yes, they will drink less milk because you don’t reach for a milk when you’re out and about. You reach for it at home.

Ted: Well, that has a significant impact on Class IV.

T3: Yep.

Don: Yeah, it’s a big swing, right? Because for the full year of 2020, Class I was zero, OK. for the full year. And if you just go back to zero and you get 2% growth in cheese, look, you know, you’re almost no change on Class IV, 1%. By the same token, cheese down 1.5%, you get three times more production of butter powder. I mean, that’s the sensitivity of the whole complex, right? Cheese sneezes and everybody else jumps off the cliff. So what does happen the second half of the year? Is milk going to be up 1.7% or is it going to be up 1%?

Joe: Pretty hard to believe you’ll be able to get 1.7% later in the second half, going against 2.7% to 3.2%.

Ted: If we’re looking right now at $18 Class III, and I’m not sure where Class IV is at the moment, but I know it’s somewhat lower but heading up, we’re going to see production increases. Even though it’s wildly gyrated at the moment, an $18 Class III, even with some Class IV, is going to be very beneficial to the dairymen.

Jacob: Do we buy that the farmers can’t hedge their milk? I mean, that’s what we’ve been hearing a lot, right? Farmers are just saying, well, we can’t hedge because we don’t know what class we’re going to be, blah, blah, blah. We have all these issues. I would think right now these numbers look pretty good, and someone could just lock in a good portion of the rest of their year. And do we buy the story that it just can’t be hedged because that would really impact, you know, if we drop over the next few months what the rest of the year looks like.

T3: Yeah, the whole issue would be cooling and hedging.

Ted: The reason that they’re saying that is that there is such a juxtaposition between the Class III and IV, and it does appear that that is heading back in the direction of some parity. I don’t know whether it’s safe to say that they can’t hedge or not, particularly when we’re sitting here in February and we’re talking about decisions made in August or September.

Jacob: We’ve got Class IV, though, you know, we’ll just call it around 16 bucks, a little over 16 bucks in the second half of the year. So average, you’re still probably north of $17.

Ted: I guess that’s right. And that would indicate to me that there’s going to be production.

Gus: Well, Jacob, talk a little about corn. I mean corns have fared about a fair amount higher than it has been in a little while, right?

Jacob: It is. The best point on corn is if you’re in the Midwest, it probably doesn’t really impact you all that much, this high price. Because you probably grow some corn yourself, basis isn’t insane. But if you’re a California dairy farmer right now, you are just getting slaughtered. Your cost-to-feed is really high relative to what it has been, you know, four- or five-year average here, and you probably aren’t growing any of it yourself. So, yeah, I think if you’re not in the Midwest, as a dairy farmer, that makes a big, big impact. I think you’re right on the money there, Don.

Gus: And there’s also a fair amount of export of those row crop commodities. So even though the futures trend down, I think you have opportunity for them to go up too. I think there’re some question marks there. And then the beef price is going up too. So there is some incentive to call, so I’m not so sure that we’re in a situation directly. Although I understand completely what Ted just mentioned, there is a possibility that the farm economics could impede some production as we move through the year.

Jacob: Class III, March touched it loads this past Tuesday, I guess. And we’ve obviously come off pretty good since there.

It’s a pretty good level, and we’ve touched this level a lot. You know, this upper 15th level, we touched it earlier in February, back in December, back in August. The market just kind of doesn’t want to break that level. So that’s just a price level to keep an eye on. If we get high 15s again on the futures, it seems like buyers tend to step in around there.

Cheese, to just going back even further, really same level on cheese. It’s like a $1.60.

Butter has had the most interesting auction over the past month here. I don’t really know how to feel about this one. What we’re looking at is the average of the second and third month. So this is an average of March and April futures right now.

We are just running into an area with, like, no volume. So if we break out above kind of just where we’re at right now, this like low 160s, all bets are off. I don’t know why we couldn’t just run into the 180s. I really don’t. I don’t think you’re gonna find much resistance. I’ll be curious to see what happens. I think an equal possibility is we just kind of stall out at this like 170 level. We never really make it into the box here. We run into all of the volume and just kind of stall. So that’s what I’m looking at on butter.

If I’m a betting man, I would be kind of surprised if we see this $1.75. We’ll see. Butter has got a mind of its own.

I’m tracing on non-fat back from May of last year. I kind of like this where we start getting volume again is like one 106, 106.5. I don’t really hate that.

The argument against us getting as low as 106, 107, and this is more spot, but the argument against us getting that low is going to be this moving average. That’s a pretty long-term moving average. It’s the, I think, 150-day, or, excuse me, it’s the 100-week moving average. So markets tend to trade around those levels. We’ll see. Run into some volume at this 106, 107 level. So, yeah, that’s kind of what non-fat is looking a little bit like.

T3: Thanks, everybody, for participating in the podcast this month. And thanks to our listeners for joining us.

This recording was part one of a two-part episode where our listeners have the opportunity to listen in to some of the discussions we have on a monthly basis about what we think dairy prices will do among our dairy trading team.

Part two, we’re going to get into some more high-level macroeconomic issues, including an in-depth discussion about what we think inflation will be doing in the second half of the year and how inflation might affect dairy prices. It’s a fascinating discussion, and I encourage everybody to tune right into part two right after this.

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We can put our insights to work for your operation. Learn more about dairy cooperative support services from T.C. Jacoby & Co.

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