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The global dairy market has bottomed; better times are coming

Matt Gould for Progressive Dairyman Published on 23 November 2016

I’ve got good news and bad news. First, the good news: The global dairy market cycle has bottomed and is now beginning the process of rebounding. While international demand is finally showing signs of growth, the global supply of milk is also decreasing in every significant milk-producing region outside the U.S. But now the bad news: The recovery is going to be slow.

How do we know prices have bottomed? Of course, there are and always will be unknowns. For example, an economic collapse could be impending. But taking what we do know, the data have finally become supportive of a modest improvement in milk prices over the next 12 months.

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For the first time since the crisis of 2009, global milk supplies have fallen below year-ago levels in a major way. This is mostly because of troubling on-farm economics around the world. Outside of the U.S., dairymen and dairywomen exited the business and culled cows this year.

For example, in Argentina, the industry has shrunk by an incredible 20 percent. One out of every five cows, gone. In Australia, output is also down double-digits. One in 10 cows, gone.

In other parts of the world, the dairy market collapse was less severe but still harmful to regional industries. In New Zealand, for example, milk production declined about 3 percent below year-ago levels during August and September.

Early indicators suggest this contraction will continue all season long through the end of May 2017. In Europe, despite plenty of government support over the last 24 months, milk production has tumbled into negative territory, down around 2 percent below year-ago levels.

Put the top four non-U.S. dairy exporters together (Argentina, Australia, Europe, New Zealand); milk production declined a total of 830 million pounds during the month of July. That size of a reduction is equivalent to removing about 38,000 cows from the global herd.

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But one month is not enough to turn markets. That 830-million-pound decline in monthly milk output will only matter to your pocketbooks if it persists.

Let’s put that in further perspective. The European government purchased about 9 billion pounds of milk equivalent to balance its market (in the form of skim milk powder), the annual milk output of about 410,000 cows. Realize that this product is waiting to be consumed. Call it what it is: oversupply.

Now, imagine a worst-case scenario where demand for dairy is holding steady around the world. For supply and demand to meet, milk production would need to decrease for 11 consecutive months; the global herd shrink by 410,000 cows.

In reality, the demand situation is a bit better than no growth. In fact, global trade of milkfat is again rising, particularly in importing regions such as China, North Africa and the Middle East.

In fact, according to my estimates, the world does not have enough milkfat at this point. This is good news for dairy farmers because it means the market, in search of fat, will pay a price above the cost of production.

On the other hand, global consumption of dairy proteins and lactose is about flat with one year ago, according to my estimates. Demand for nonfat milk solids has not increased enough to require additional cows in the global herd.

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Would you pay for an input that you do not need? This is what the market is asking milk powder buyers. Probably you would – but only if it was on sale. If priced low enough, you could more than cover the cost of shrink, financing and storage for use at a later date.

Because the market is in need of milkfat, but not other milk solids, farmgate prices are likely to hold near the cost of production. Neither substantially above nor below. Eventually, decreases in supply and increases in demand will cause milk prices to rise further.

How soon will that happen? It may take a while. Perhaps most of 2017 before dairying is again lucrative.

As we track this development, it will unfold as follows: First, the global dairy market will go from being oversupplied to undersupplied. Second, record inventories will be pulled down to historically normal levels around the world and, third, below-normal levels.

For a dairy farmer, the “below-normal” inventory position is the holy grail. It means the global market has to shell out large sums of money to incentivize more milk. This is what happened in 2014.

Where are we in the process? Early. I call this “rebalancing.” Somewhere between Stage 0 and Stage 1, the market switching from having too much dairy to too little.

Realize, the European government is holding 9 billion pounds milk equivalent in storage in the form of skim milk powder (a form of nonfat solids). At some point, most estimates now say that in the middle of 2017, at the earliest, that giant pile of dairy will end up in the market. This is going to prevent a price recovery for nonfat solids for most of 2017.

Regarding milkfat, European inventories are finally being pulled down, which is a positive sign. Meanwhile, in the U.S., warehouses are still holding record cheese and butter stocks. This is the beginning of rebalancing.

One of the biggest factors that will drive the speed of these price recoveries is European milk production. At the moment, European milk output is below year-ago levels.

However, the government there, and some processors, are paying farmers to decrease production. Most of those schemes end on Dec. 31, which means output will likely uptick at the start of the year.

So while the recovery looks underway right now, be prepared for a temporary return to “too much milk” at the start of next year.

Therefore, what should your dairy do in 2017? Use the year to position yourself for better times. We have probably seen the worst of this down cycle, but 2017 is not going to be superbly profitable.

That said, realize that the tailwinds of population growth, rising incomes and increases in per-capita consumption of dairy are about to catch up to supply. I believe 2018 could bring significantly better times to American dairy farmers. Keep your eye on the ball to take advantage of 2018.

To sum it all up, milk supplies have decreased in every major milk-producing region around the world – except in the U.S. Global markets are consuming more milkfat, which is resulting in consumption outpacing supply.

However, in the case of other milk solids, international demand has not yet improved materially.  end mark

Matt Gould
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