To stay in business or sell out?


Milk prices are climbing back up from their low point in February, prompting Ted and T3 to predict how high prices need to get before dairy farmers on the fence about staying in business decide to stick it out.

They also discuss how the dairy exports situation could play out over the duration of this year.

Episode transcript

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 is April 9th, and with us we have Ted and T3, as usual. Today we need to talk about changes over the last few months. We had predicted that…prices were forecasted to drop into the $13 and stay there, but in reality were only that low for about a month. In terms of retraction, we need to look at what that does to our view for the future. We also need to talk about international markets, and trade agreements, and tariffs. So, I’ll just open it up and let you guys go wherever you want.

T3: Do you want me to start it off?

Ted: You can start it off.

T3: Okay. I think, let’s talk a little bit about pricing first. We bottomed out in February at $13…what was it, Anna?

Anna: $13.40 was February.

T3: So, we bottomed out in February at $13.40. We came up into March, I think we were up…what did we end up with…$14…

Anna: $14.22.

T3: $14.22 in March.

Ted: Those are the Class III prices.

Anna: Exactly….

T3: Those are the Class III prices and April is, right now, tracking towards about $14.85. And so, we’re almost $1.50 above the low that we experienced in February.

Ted: In the Class III prices.

T3: In the Class III prices, right. I think Class IV prices have continued to stay in that $13 range, but at least in the Upper Midwest, prices have come up a little bit since there’s a lot more Class III utilization in the Upper Midwest. My concern about that is that we were talking quite a bit in the beginning about a contraction in the milk supply here in the U.S. because of how low (the price) had gotten. But they didn’t really stay down there long enough to have the effect that we were originally thinking. It looks like, by the second quarter, we’re probably gonna be somewhere around $15 a hundredweight in Class III. Now, I’m not saying that anybody’s getting rich off $15 a hundredweight, but that’s not the financial pain that something around $13, $13.25 would give, which means there’s probably going to be some dairy farmers who are gonna stay in the business, that we originally assumed might get out of the business. My concern is, without the contraction of milk supply that we’d been talking about, while demand has, I think, given us a nice floor and bounced this market a little bit up into the $15s, I’m concerned that without the reduction of milk supply it’s gonna be difficult for us to get much more than $1, $1.50 higher than this. In other words, by the time we get up to about $1.70, $1.75 cheese, that’s about as far as we’re gonna go and our milk price will top out around $16.50 in the second half of the year.

Ted: You may be right on your projection for the second half of the year, but if you think that dairy farmers are gonna to be happy with a net price after discounts and after hauling at somewhere in the neighborhood of $13.50 to $14, that isn’t gonna fly.

T3: I’m not saying they’re gonna be happy, I’m just saying they’re gonna stay in the business.

Ted: Well, I don’t think they’ll stay in the business anymore at $13.50 to $14 than they were at $12.75 or $13. I think the situation, as far as the dairy farmer is concerned, is extremely difficult right now. And I was in a meeting this morning with a couple of bankers who bank dairy farmers, and they agree that this is a very difficult situation for the dairy industry.

T3: Are those bankers you were talking to foreclosing yet?

Ted: No, but it is a difficult situation and we haven’t even paid the March final yet. We’re talking about April, May, June, July before any chance of it turning around. Now, I do think it’s gonna turn around, but the premise of that, “We’ll have fewer sellouts because of a slightly higher price,” I think is questionable, and we haven’t even hit the flush yet. So, whether the price will stay high or not, between now and July, I think is problematic. But I do think that the export situation, in the long run, helps us. And whether or not it means that the price is gonna go higher than your estimate in the fall or not, I don’t know that. But I’ll point out a couple things on the export situation, which I think a lot of people don’t realize and which need to be reiterated. And one is that exports are predicated on the CME, not on the Class III price or the Federal Order price. And it’s the relationship of the CME versus the cost of goods in the country of destination that counts. And exports are made three or four months in advance, and we had record exports in February. Higher pricing in the United States doesn’t mean the world market pricing, in Oceania and in Europe, is very favorable. So, it’s not unrealistic to think that exports are gonna stay pretty strong. Now, what does that mean? It’s certainly not gonna mean anything in April, May, June, and July, because we’re gonna have so much milk we don’t know what to do with it all. But if we export a lot of that volume of milk, then your projection of pricing in the second half or the fourth quarter of this year could be somewhat low because we’re gonna have to export a lot of milk, but we could take the edge off of things.

T3: Here’s my concern. Our exporting in the first half of this year, I do think it’s gonna be good, particularly in cheese. But by the time we get into the second half of the year, I look at it this way. One, I think that milk production in the U.S. is gonna continue to be positive. It’s gonna probably continue to be somewhere between 1% and 2%, which, with what we’re seeing in domestic demand, which is better than last year, but we’re not seeing 3%, 4% increases in demand, we’re seeing about 1% to 2% increases in demand, correlates pretty closely with where we’re at in milk production. If our milk production in the U.S. stays in that 1% to 2% range, if we continue to see strong milk production in Europe…keep in mind that one of the reasons we’ve been able to export more this year is because the growing season, the weather, in New Zealand this year was absolutely horrible during their milking season. And so, they saw 2%, 3% reductions in milk production this year.But there’s a big difference between a conversation about decreases in milk production in New Zealand, that have to do with weather, and therefore milk production per cow, versus reductions in cow numbers. And we did not see reductions in cow numbers in New Zealand, which means next year they’re just as likely to come back with a vengeance.

All of those things add up, to me, to say that as you look past the second half of this year, into 2019, milk production’s going to be very strong globally, strong in Europe, strong in the U.S., strong in Oceania. If that’s the case, my concern is, markets tend to be forward-looking, which means even if demand is really good in the second half of this year, if everybody’s expecting there to be more than enough milk in the first half of 2019 and more than enough cheese in the beginning of 2019, they’re not gonna get carried away in terms of price in the second half of this year. And that, I think, is where this is going to play out.

Ted: Well, you could be right. I’m looking here at a graph which shows the cycle of milk pricing which peaked in 2014. We’re now four years later and the price of milk has basically gone down. And it hadn’t gone down as severely as it did in 2009, but it’s gone down in a major way. So, we’re now four years after the peak that we had before, and we are in a cyclical business.

Now, the thing that causes me to be somewhat bullish on milk pricing, as we get into the end of this year, is the demand situation. You know, we have had lackluster demand. Let’s face it, we have. However, I don’t think it’s going to continue. I think that demand is gonna be good and I do think milk production is going to fall off. I think the pricing situation will cause a lot of sellouts. And I think the banks are basically going to force those that are suspect to go ahead and switch to cash crops rather than milk cows, particularly the smaller dairymen. So, I think an increase in demand is coming and I think a reduction in supply is also coming. And then, even though the exports of cheese compared to our inventories are a drop in the bucket, 62 million pounds of exports is a lot of cheese each month. You put that together with the fact that demand and supply are either in balance or may be slightly negative, in terms of production meeting demands…so you add four or five months to that, all of a sudden you’ve exported three or four billion pounds of inventory. Painting a completely dismal picture of what pricing is gonna be later this year, I think, is gonna be wrong.

T3: I’m not trying to paint a dismal picture about the second half of this year.

Ted: Well, you’re doing a pretty good job of it.

T3: Well, if $16.50 Class III is dismal, then, okay. I’ll stand as charged.

Ted: It is. It’s not good. That’s not good enough.

T3: Yeah, you’re…

Ted: I’m not gonna talk about a Class III, I’m talking about a blend price and most of the dairymen are based on blend prices. And blend prices are diminishing. And most, with the exception of maybe Wisconsin, the rest of the industry is in a discount to blend prices.

T3: Still, $16.50, second half of the year, dairy farmers break even.

Ted: No, they don’t. Your $16.50 nets out after the discounts, and the freight, and so on is concerned? They’re lucky to net out at $15.

T3: And that’s off the blend price. So, if $16.50 is the Class III, what do you think the blend price is gonna be in most of the Federal Orders?

Ted: It’ll vary wildly, but in Wisconsin, it might be $16.60.

T3: Okay. So, you’ve got a blend price of $16.60, you’ve got, you know, dairy farmers in Wisconsin probably netting out, let’s just say somewhere around $16.60, maybe they’ll get a little bit more than that. In Michigan, you’re probably a dollar or two under that. On the Southwest and other parts, I’m guessing you’re probably right around that number. I don’t believe $16.60 is going to push those marginal producers over the edge and force them to get out of the business, especially when cow pricing, right now, the price that a dairy farmer can get for dairy cows, is very low. And most of them aren’t gonna get their money out of the heifers that they’ve invested in already this year. So, I just don’t see the incentive for dairy farmers to aggressively exit the business unless the banks decide that they’re gonna foreclose on them and force them out. And I think your conversation with the bankers this morning probably says a lot. They just haven’t started foreclosing yet. And I’m not sure that they’re going to…

Ted: There’s a difference between foreclosing, though, and telling them what they think they ought to do.

T3: But what they think they ought to do is a lot different from telling them what they must do.

Ted: Well, sure. And I can see a scenario, you’re sitting there with a pile of feed, but you’ve still gotta go out and buy supplements and so on. And when it comes time to grow crops and decide whether or not you’re gonna feed them to the cows or whether you’re gonna sell the grain, that decision comes late in the summer. I do think that we will see a significant reduction and, while I do believe that the market is less difficult now than it was a couple months ago, I think the improvement is nominal at best.

T3: Okay.

Ted: And I would say that the cycle is gonna play out, and when we get to the fourth quarter of this year, I think we’re gonna be looking at pretty aggressive markets. I do believe that you’re being much too bearish, as far as where product prices can go. And then, to say that farmers are gonna be happy at $16 milk?

T3: I’m not saying they’re gonna…

Ted: Believe me, they’re not gonna be happy at $16.

T3: I’m not saying they’re gonna be happy at $16 milk, I’m just saying they’re not gonna give up at $16 milk.

Ted: Yes, they will.

T3: You think…

Ted: Yes, I think they will. I think they will.

Anna: Everyone I talk to is saying that people are still preferring to add to their herd and make more than to back out. Every producer has said this, that they have not talked to anyone who is getting ready to close up shop.

T3: And how many producers have we talked to that are talking about building a new farm because cows are so cheap?

Anna: I’m hearing a lot more of that than of anybody leaving.

T3: To me, you have to get to a point, and it’s classic market economics, you have to get to a point where everybody just wants to give up. It’s like they’ve been beaten down so far that you have a significant segment of the population that just wants to give up. And we’re not there yet.

Ted: Let’s examine the motivation for a dairyman going out and buying cheap cows. He needs the cash flow.

T3: Right.

Ted: Okay? That doesn’t necessarily mean that he’s making money. It means that he’s got the cash flow and he’s got a pile of feed out there. That doesn’t argue well for the future, it argues against the future.

T3: Well, but think of it this way too…

Ted: But traditionally that’s what’s always happened prior to reductions in volume is that the dairymen with an extra free stall, filled it with a cow that was cheap. And then eventually he just ran out of feed and that was the end of it.

T3: You know what would be a really interesting equation to add up? Would be, “What is the ratio of the cost of a milk cow to the price of milk? What was it three years ago, and what is it today?” I’m willing to bet that ratio is less than half what it was probably less than two years ago. And the reason I think that ratio would be meaningful is because, if you need cash…two, three years ago you’d been in a much better position to say, “Sell the cows, raise the cash.” Today, you’re gonna look at that same math, and you’re gonna go, “You know what? You’re gonna probably get the cash quicker or at least almost as quick if you just keep the cow and milk it for a while.” And so there isn’t the financial pressure on the dairy farmer that there needs to be to really force him out. That’s a part of the problem.

Ted: You’ve still got supplements.

T3: You’ve still got to feed them, is basically what you’re saying.

Ted: Yeah.

T3: Yes, you still have to feed them…

Ted: It’s more than just a pile of corn silage.

T3: You talked to your bankers this morning.

Ted: Yeah.

T3: Did they say they were willing to lend their farmers more money?

Ted: Well, we didn’t get into that discussion. We were having a different discussion. But they are very concerned about the ability of the dairymen to stay in business, at the current level.

T3: But the question becomes, what do they do? Are they just gonna keep lending them more money?

Ted: Well, I didn’t ask that, you know, but their obvious level of concern, you know, was…more of the observation was all bankers are concerned right now.

T3: My gut tells me that the relationship between the price of milk and the overall economy is much similar to the period between the mid-80s and the mid-90s than it is something more recent. And, unfortunately, the mid-80s to the mid-90s was dominated by an economy that was going very, very well and not one dairy farmer making a penny of money.

Anna: Well, I know you guys also wanted to talk about the tariff situation and what that might mean for dairy farmers and the dairy industry. That could be a long discussion, so let’s take a breather and talk about that in Part 2. So, thank you both, and we’ll pick up where we left off in Part 2. We welcome your participation in The Milk Check. If you have comments to share, or questions you want answered, send an email to Our theme music is composed and performed by Phil Keaggy. The Milk Check is a production of T.C. Jacoby & Company.

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