Wheat price direction hinges on demand, outlook for 2013

by Jay Sjerven
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KANSAS CITY — With the Southern Hemisphere harvest under way, the world wheat supply for 2012-13 soon will be known, leaving U.S. millers, bakers and exporters to concentrate even more fully on demand and other factors that have the potential to move prices before spring. Veteran market analysts interviewed by Milling & Baking News suggested U.S. winter wheat conditions, export demand for U.S. wheat, outside market developments and the overall state of the U.S. and world economies will be at the forefront of their considerations in the next several weeks.

An early harvest this year allowed the U.S. wheat crop to largely escape what became the most severe American drought in decades. Indeed, the wheat crop generally thrived with its average yield at 46.3 bus per acre, equaling the record achieved in 2010. U.S. wheat production in 2012, at 2,269 million bus, was the largest since 2,449 million bus in 2008. U.S. wheat supplies were viewed as ample for domestic and export demand.

A post-harvest rally often is a feature in wheat markets, but this year, the rally reached historic proportions because searing summer temperatures and an expanding drought ravaged the U.S. corn and soybean crops, sending prices of those crops soaring and pulling wheat prices sharply higher in their wake. Domestic feed demand for U.S. wheat spiked. The K.C. March 2013 wheat future advanced from about $6.82 a bu in mid-June to about $9.57 in mid-July.

Drought was not solely an American problem in 2012. Wheat crops this year in the former Soviet Union also were sharply reduced from both last year and from initial forecasts because of drought. The U.S. Department of Agriculture on Nov. 9 estimated F.S.U. wheat production in 2012 at 77.79 million tonnes, down 32% from 2011 and compared with the U.S.D.A.’s May forecast for the region at 97.76 million tonnes. The shortfalls resulted in sharply lower exportable supply in those nations, which, in turn, raised the prospect for increased demand for U.S. wheat, which added further fuel to the run-up in prices.

Because of the drought in the F.S.U., dry conditions in Australia, and reduced plantings in Argentina because of extremely wet conditions, the U.S.D.A. lowered its world wheat production forecast for 2012-13 in each monthly World Agricultural Supply and Demand Estimates report since the initial projections for the year were issued in May. In that month, the U.S.D.A. forecast world wheat production in 2012-13 at 677.56 million tonnes. The most recent forecast was more than 25 million tonnes lower at 651.43 million tonnes.

Since the post-harvest rally, wheat futures prices mostly have traded within broad ranges (in the case of the Kansas City March wheat future, around $8.85 to $9.60 a bu).

In recent weeks, corn and soybean futures prices dropped after the U.S.D.A. raised its production and carryover forecasts for those crops. Wheat futures prices, after testing the top end of the trading range in early November, suddenly dropped to test the bottom end of the range at midmonth.

“We rallied above the range at the beginning of November because of weather, as there still is a lot of concern about dryness in the United States,” said Steve Freed, vice-president of ADM Investor Services, Chicago. There also were ideas that because of the decline in exportable supply in the Black Sea nations, quality and supply concerns in Argentina and dryness in Australia, the United States might see additional export demand for its wheat, Mr. Freed said.

“We then broke and took out the low end of the range,” Mr. Freed said. “Part of that was after the election there were concerns that tax-and-spend policies would take us over the ‘fiscal cliff,’ and that would reduce companies’ margins and reduce demand. That tended to liquidate a lot of longs in a lot of markets.”

Asked what it would take for wheat futures prices to finally break out of their ranges, Paul Meyers, chief agricultural economist, Foresight Commodity Services, said, “The breakout to the downside would be most likely to occur if we see some precipitation in the central and southern Plains to help out the winter crop development.”

Mr. Meyers noted because of the drought in the Plains states winter wheat condition ratings as reported by the U.S.D.A. in its weekly Crop Progress reports were the worst since the department began issuing such ratings 25 years ago. Soft red winter wheat conditions ratings were good, so it was the abysmal initial ratings for hard red winter wheat that pulled down the winter wheat average.

In the most recent Crop Progress bulletin, the U.S.D.A. rated the winter wheat crop at 34% good to excellent, 40% fair and 24% poor to very poor. The Kansas hard winter wheat crop was rated 30% good to excellent and 46% fair. Conditions were much worse in Nebraska and South Dakota, where the drought’s grip remained the most stubborn.

“I know it’s getting late, and as you go farther north into Nebraska and South Dakota, the temperatures have been cold enough that we won’t get a lot of growth,” Mr. Meyers said. “But if we could see an inch of rain move across Kansas, Texas and Oklahoma, that would be the quickest and easiest way for prices to go down.”

With regard to winter wheat conditions, Mr. Freed acknowledged, “You don’t absolutely need rain in November, but you’d like to have it to establish a good wheat stand in the southern Plains.” He noted the forecast for the winter wheat was cold and mostly dry across the Plains, which was not favorable.

At the same time, both Mr. Freed and Mr. Meyers said it would be a mistake to write-off the 2013 hard red winter wheat crop.

“People know it is extremely rare to lose a wheat crop in the fall,” Mr. Freed said.

Mr. Meyers said poor winter wheat conditions in the fall don’t always translate into sub-par winter wheat yields. He pointed out the winter wheat conditions were below average last fall, but the 2012 crop recovered well in the spring. At the same time, poor winter wheat conditions in the fall do put more pressure on March, April and May weather and precipitation “because there’s no cushion there with regard to subsoil moisture.”

Regarding the possibility of a breakout of the trading range to the upside, Mr. Meyers said, “We have a long way to go to get back to the top end of the range.” Mr. Meyers said an upside breakout would most likely be a result of increased foreign demand for U.S. wheat. He noted if Ukraine carries through on its announced ban on wheat exports that was expected to begin in December, and if Russia announces a ban on exports, more world demand may shift to the United States. He said should those nations not be able to supply all of the wheat they’ve already sold, importers would have to scramble to find other origins. He also observed that even in the absence of bans or contract cancellations, the Black Sea nations won’t be significant wheat exporters from this point until their 2013 harvests even as U.S. soft red winter wheat, at least, was becoming more competitive in world markets.

Mr. Freed agreed for a breakout above the trading range to occur, the U.S. would have to see increased export demand.

Market participants seemed to agree that the U.S. will see some demand that in other circumstances would have been supplied by the Black Sea nations. But there was disagreement with regard to whether exports in the current year will be higher or lower than the current U.S.D.A. forecast. The U.S.D.A. on Nov. 9 forecast U.S. wheat exports in 2012-13 at 1,100 million bus, down 50 million bus from its October forecast but up 50 million bus from 2011-12.

Mr. Freed noted some analysts expected U.S. exports to exceed the U.S.D.A. forecast. But he noted, “By now, we would have liked to have seen some of the additional business.”

Mr. Meyers suggested even if the U.S. sees some additional demand that otherwise would be supplied by the F.S.U., “it looks like we’re running past the time when we should have seen significant additional sales. Now Argentina and Australia are harvesting wheat, which will put more supply on the market. So I think there is a good possibility U.S. exports may be 50 million bus below where the U.S.D.A. is projecting them.”

Turning to outside markets, Mr. Meyers noted the dollar index strengthened about 3% in the past couple of months. Crude oil dropped to $84 a barrel but recently advanced to around $90.

“I think we will see a little more strength in the dollar in the next few months, and crude oil may head back down to $85 a barrel,” Mr. Meyers said. He said such moves would be bearish to commodity prices in general, including wheat.

Mr. Meyers also pointed to the corn market, which has seen a selloff in recent weeks.

“I think corn futures will be firm into the spring and should average between $7.40 and $7.80 a bu,” he said. “The lows we had about a week ago should hold until we get closer to spring planting. By itself, this should be supportive to wheat.”

Mr. Meyers forecast Kansas City wheat futures prices in January-March to average $8.95 to $9.35 a bu with the Chicago average 35c lower than the K.C. average and the Minneapolis average at 25c above K.C.

Mr. Freed cautioned there were other unknowns.

“If the United States goes over the ‘fiscal cliff,’ that’s bad,” Mr. Freed said. “If Europe can’t fix its problems, that’s bad. And if both those bad things drag down China, that’s bad. Global recession is not good for the long or the bull.”

He said it was important to have an opinion on demand under all of those scenarios.

Mr. Meyers said, “I’m actually more optimistic about U.S. and world economic growth. You may see the dollar strengthen further if the negotiations over the ‘fiscal cliff’ go well and we find a resolution. The global economy should grow more than 2% this year.”

Mr. Meyers said bakers should try to complete January-March flour coverage when wheat prices are near their recent lows.

“For April-June, even though the U.S. winter wheat crop may seem at risk if we don’t get rain, the 2013 winter wheat crop condition in Ukraine was said to be among the best seen in recent years, and Russian winter wheat prospects for 2013 look much better than this year,” he said. “We may see sharply larger crops in the Black Sea region next year, and the European Union may see a 10% rebound in soft wheat production in 2013, all of which may help take some of the steam out of wheat prices next year.”

Mr. Freed noted bakers already have covered about 50% of their first-quarter 2013 flour needs and should be chipping away at the remainder.

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