Milk prices: What role is inventory playing?
Friday, January 20, 2017
Milk production continues to increase as the years and months progress. The nation’s dairy herd is growing and has reached 9.34 million head as of November, the largest since the second quarter of 1996 when cow numbers averaged 9.37 million.
This increase in dairy cattle has not been detrimental to milk prices, which have experienced record highs as well as extreme lows. The rise and fall of milk prices has not specifically been tied to the increase or decline of cow numbers.
Certainly, times of low milk prices have shown a decline of cow numbers as culling increases due to financial reasons. The same is true when feed prices are high and lower-producing cows are readily eliminated from the herd. However, the bottom line is that dairy producers will push milk production when milk prices are high to take advantage of good prices, and they will push milk production when milk prices are low in order to make up for lower milk prices by increasing output.
The real driver of milk prices is demand and not necessarily cow numbers or milk production. Those factors certainly play a part, but good demand requires strong milk production to meet that demand and lower demand requires less milk. That is the ebb and flow of the market.
Higher milk production increases the output of dairy products, whether it is bottled milk, cheese, butter, powder, yogurt, etc. Dairy products are the bottom-line driver of milk prices. Growing inventory of products most often requires lower prices in order to keep inventory from becoming burdensome, unless domestic or international demand improves limiting inventory growth and tightening supply.
However, this may not always be the case. Cheese inventories have grown nearly consistently since the late 1980s after the Whole Herd Buyout program reduced burdensome inventories substantially.
During the past 26 years, cheese inventory has increased slowly until record total cheese inventory was achieved this year from April through October. Yet, we experienced record high milk prices in 2014 and strengthening milk prices and the potential for higher milk prices throughout 2017 based on current milk futures. This is a testament to improving demand absorbing increasing milk production. Even though the value of U.S. dairy exports quadrupled from 2004 to 2014 with cheese, skim milk powder, whey products, and lactose being the leaders, domestic inventory of cheese continued to increase.
Increasing demand requires higher inventory to provide a cushion during times of less milk production and lower product output. However, the current trend may have the market on a collision course. How long can cheese inventory continue to increase despite rising demand without consequence? Demand has been strong this year, but inventory remains higher than a year ago. Even 2014 closed the year with cheese inventory above 2013 despite a record export pace. The close of 2016 may also show more growth of inventory once those figures are released.
Recent export sales reports are showing improving international demand due to milk production and supply of many dairy products lower in other countries. This should continue to bring more business to our shores, but the growth of exports may be hindered by the U.S. dollar being near 14-year highs. However, if product is tight, a higher dollar may not have much impact on demand as higher prices will be paid to purchase required supply. We can only hope we do not go through another period of very low milk prices to reduce inventory and slow milk production.
Robin Schmahl is a commodity broker and owner of AgDairy LLC, a full-service commodity brokerage firm located in Elkhart Lake, Wis. He can be reached at 877-256-3253 or through the company’s website at www.agdairy.com.
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