Has Our World Changed?

The USDA finally admitted to what I had been focusing on in this and other columns since January. Being essentially over 100% hedged personally over that time period, I didn’t expect anyone to act on my judgment as it was hard enough to do so with clients who were bombarded nearly on a daily basis. Nevertheless, there were opportunities to not be in harm’s way regardless of one’s perspective, as $10 soybeans were very profitable and even cash contracting 50% is all that risky at that price. Perhaps I can put the “irrational exuberance” away for now as prices have capitulated sufficiently to where replacing short hedges in futures with long puts seemed more rational.      

The USDA not only lowered U.S. export projections for the 2018/19 marketing year that starts Sept. 1, but they lowered China’s imports this current year by 3 mmt (million metric tonnes)  and next year by 8 mmt—roughly 100 million bushels this year and about 300 million bushels next year. The carryover for 2018/19 was raised 250 million bu. in line with my thinking; others think more reductions in Chinese imports are needed. It’s interesting now that the ship has sailed, media outlets are filled with the new obvious.

An increase in U.S. yields of 2 bushels would add another 190 million bushels, extending ending stocks to 770; 4 bushels to 52.5 means carryout would be knocking on a billion bushels, which then becomes carry-in to the 2019/20 crop. An excess of perhaps 650 million bu. is equivalent to 12 million acres not needed in 2019. You can estimate for yourself what price it would take to discourage such acres; I have my own ideas formulated. The danger is to get too carried away with bearishness now that the media have finally gotten the message. The encouraging part of all this is that those that were long and wrong are now licking their wounds and in emotional distraught helping to dry up the liquidation of longs.

USDA left corn and soybean yields unchanged, which no one believes except those who have a production problem on their farm. Secretary Perdue has said repeatedly he will wait until after Labor Day to decide on the details of what, if anything, he will do to help support Ag.   

• He has alluded that USDA is “studying” the problem to find out just how much of the collapse in Ag profitability is due to tariffs and how much is due to pure supply/demand which farmers have dealt with for decades.  He has $30 billion in available credit from the treasury and has said he has many tools to use, but has also warned producers not to expect some massive check for bail-out.  
• Using USDA’s trend-yield numbers as a baseline for average gross revenue, if yield is increased further he can blame Mother Nature. For soybeans, multiply yield (48.5) X $9.50 cash price to get a gross price of $460/acre that was available pre-tariffs compared to $413/acre at a higher yield of 51.5 bu. yield X $8.03 my current fall cash. So a $47/acre difference. Who is to blame--tariffs or Mother Nature? Consider that perhaps half of the bean crop was contracted before the tariffs and the aforementioned deficit gets smaller.  You can see it is to Perdue’s advantage to buy time, and he got it. I don’t think we need to get our hopes up of a massive check!
• Furthermore, there is NO talk yet of how all this affects profitability for successive years. Odds are USDA will want to wait and see.
• Should Trump keep control of the House and Senate without doing much for Ag, how does that change things?  It doesn’t! As my astute political friend stated, “There are a lot more voters happier with their economy than there potentially are disgruntled farmers.”
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To make matters worse, representatives of our Ag sectors (grains/oilseeds and meats) have met with the administration’s economic and trade representative and told them, in so many words, that farmers understand and support current trade-changing efforts as something had to be done, and farmers are patriots and have gone through hard times before. They basically sent a message that regardless of where we are economically come voting time this fall, the Ag states that helped elect President Trump will vote likewise to keep his majority in the House and Senate. In addition, Wilbur Ross (U.S. secretary of commerce) was on TV a couple of weeks ago saying he was told in a Washington D.C. meeting by farm leaders that producers tend to blame the speculator for the price drop.

I’ve seen presidents and a lot of politicians on both sides of the aisle make ill-fated decisions. My job as a paid analyst is to ascertain the acts by whomever is in office and act accordingly to figure out the implications--how they would affect, economically, my agricultural well-being and yours as well!  To use the rationale that it is hard to sell something you don’t have is ignoring the tools we have to pass off market risk; the market doesn’t care about our backyard. Selling prices are largely global; costs are local.

It takes a working capital investment to manage risk using futures/options, the shortage of which could be a big problem this year and reasons for not taking protection. Larry Kudlow, economic advisor to Trump, believes large farmers hedge off their production, and he called them “rich farmers” 10 years ago in an interview on CNBC with me. He is no friend of Ag’s.

I was around when Nixon embargoed soybeans to our ally Japan and started the rush to open up Brazil’s ability to plant soybeans. I saw Carter embargo grain to Russia and understood well the implications of removing Russia from most-favored-nation status and used moves by Carter for interest-free CCC loans at a time when interest rates were 9%. I used the FOR (farmer owned storage) as a profit center to stay afloat, while we tried to regain market share in that failed embargo which was passed by a unanimous vote by both political parties but later blamed for Agriculture’s problems for years. I managed then, and quite well in fact, the challenges politicians placed before us, thanks to government programs that helped mitigate the crisis.

I was around when Reagan said after his election that “It was time farmers got what they deserved—a free market.”  That action then cut the deficiency payment for me by two-thirds, as the government decided how much I should make and to no longer support Ag in a tough environment. The result was a significant cut in rent, a 40% to 50% cut in land prices, and it started the 20 years of sideways markets plagued by overhead supply and the worse agricultural economic recession in my lifetime, up until now that is.  

Thanks to President Bush’s ethanol mandate to burn 5 billion-bushels of corn for ethanol that helped create the explosion in agricultural commodity and land prices. There isn’t a new 5-billion-bushel demand shock readily apparent now, nor is there likely anything being planned short of a radical action to eat up the increase in corn production in 2019, if acres grown significantly increase. We don’t sell much corn or corn byproducts to China but the apparent lack of soybean profitability bodes well for a big expansion in corn and perhaps wheat, and the market knows that. The jury is out as to how all this will play out, but I have my concerns and have planned accordingly at least for this year. 

Of course, there is always weather and South America could have a crop bust next year. A weather-induced problem in Russia is mounting in wheat and the U.S. is a small fish in a big pond of wheat. A drop in exportable supplies of wheat by a major exporter could send a positive ripple effect in wheat when one least expects it. 

Given the outlook I heard on TV this past weekend and read in printed advisories regarding the insatiable appetite of China, it appears we are in the “hope” stage of the three stages of a market cycle—greed, hope and fear.  Unfortunately a lot of money has already been lost in the Ag community in the price collapse of commodities, and crop insurance indemnities are not all that far away for those who aren’t going to see 120% of APH. ARP and crop insurance coverages have peaked, making the safety net even worse for next year.  

It doesn’t take a genius to make money in a bull market. The opposite is true with a bear market. The key is to be on the right side of the market during an economic problem. A paradigm shift seems to be in the making in how we market grain and what the new price discovery system will look like where governments (China/U.S./Europe/Russia) are back involved in our lives.

Bottom Line:  If there is a rabbit in the administration’s hat, time is of the essence to pull it out. The non-Chinese market could very well buy from the U.S. as China gobbles up South American supplies. China has other optional sources for protein, but there still could be an extra demand on U.S. soymeal creating record crush in the U.S. as beans are abundant here. If, however, China can avoid buying soybeans from the U.S. until the next South American harvest, it means the job gets a lot tougher for the U.S. to negotiate and tougher for the U.S. farm sector’s economic viability. But in the background, the U.S. price to non-Chinese buyers, which are expected to take up the slack, is cheap by any standards and offers an opportunity for buyers and an opportunity for a rebound if provided with a catalyst.  

The intellectual property rights issue looks to take a long time to resolve, so it is paramount for U.S. and China to make a deal on Ag as a place to start. Trump rejected the $70 billion offer by China and now that is off the table as well, maybe that will come back into play? President Trump’s negotiation tactics are quite the opposite of those of the past administration. In the past, China pretty much called the shots and negotiated its way into better and better deals as the process progressed, and our government and businesses gave up more and more. To his credit, President Trump has changed all that and what goes around comes around. His style is unorthodox compared to conventional, ill-fated styles, and China has met with rejections and calls to up their game for a better deal. By not really spelling out exactly what he wants, he’s leaving it up to the Chinese to guess and come back to the table with a better deal. Where we and our intellectual property rights broached, it is different now. Hopefully when the dust settles the future of Ag will indeed be better in the long-term. It appears China is on the defensive, which in and of itself is refreshing.

It’s time to start planning. Odds are it is time to put on our negotiation hats and take a second look at land costs, seed, fertilizer and machinery. If we have skin in the game, why not those who serve us? Those of us over 50 years old and who survived the 80’s are well-equipped to survive again. Those who started farming in 1985 haven’t seen two significantly bad years in a row. Cash is king again!   Jerry Gulke, President Gulke Group, Inc. www.gulkegroup.com or phone 480-285-4745; 707-365-0601.