Current Sales Position:
We are 80% sold on 2017/18 old crop corn.
We are 40% sold on 2018/19 new crop corn.
We have to apologize for the tardiness of this week’s Digest – we had to re-review some data points over the weekend and update some charts. With this transparency in mind, and the first half of 2018 on the books, this week we wanted to take the opportunity to provide you with an update on our views on every factor we track in the grain markets. The month of July gives us a chance to reassess events happening in the market and provide you with a framework of our expectations for corn prices through the balance of 2018.
Today, we’ll be discussing important market factors such as:
– Macroeconomic Conditions
– South American Production
– Changes to the U.S. Ethanol Mandate
– Weather Premiums in Corn Producing Regions
Before we dive into each factor, let’s take a look at how corn prices at the Chicago Board of Trade performed this past week.
- Sep ‘18: +0.2% or 0.8¢ to $3.602 USD / bushel
- Dec ‘18: +0.5% or 1.8¢ to $3.73 USD / bushel
- Mar ‘19: +0.5% or 2¢ to $3.832 USD / bushel
- May ‘19: +0.5% or 2¢ to $3.90 USD / bushel
This week, corn prices ticked slightly higher. However, we’re nowhere near where we want to be given the financial implications of September corn prices trading a tick above $3.60.
The University of Illinois said on April 13th that the breakeven corn price in the state this year would be $4.00. With December contracts now off nearly 10% from that figure, farmers are looking for any factor that would produce a rally in the summer months.
The chart below provides a glimpse of corn prices over the final six months of the year dating back to 2013.
In all cases except 2013, prices failed to sustain above $4.00, a trend that creates a few worrisome examples for farmers. For corn to get back above the $4.00 threshold, farmers will need to rely on supply chain problems to persist in South America, hot weather to cook the U.S. crop in the weeks ahead, and structural weakness in the U.S. dollar.
Let’s take a look at the other factors that will drive corn prices over the next six months.
Global Macroeconomic Conditions
The U.S. economy is humming, and it’s widely expected that the US Federal Reserve will raise interest rates two more times by the end of the year. The question – and it’s a loaded one – is how much trade tariffs will impact and hinder growth? On Friday, July 6th, the Trump administration hit China with tariffs on $34 billion in products. China hit back and said that America had started the “largest trade war in history.”
The entire situation defies logic. Basic economic theory is out the window right now, but it’s hard to argue that eight years of profound economic stimulus under the Obama administration (more like alchemy) was sound policy either.
Our advice? Let us take care of worrying about the big picture figures, and we’ll report back on any threat that presents itself.
Ultimately though, we remain cautious about what lies ahead.
Trump + Global Trade Negotiations
Back in April, when the threat was initially announced, we had expected about a 10% chance of a trade war. We were overly optimistic, as this event did indeed occur.
And now, China is slapping 25% import tariffs on American ethanol, corn, DDGs, and sorghum.
For perspective, over the past 3 years, China has imported an average of the following from America:
– 106.7 million gallons of ethanol,
– 3.1 MMT of DDGs,
– 6.6 MMT of sorghum,
– 623,000 MT of corn.
It’s going to take quite a breakthrough now for there to be a reversal on this standoff. The lines have been drawn; the markets are starting to react accordingly. Other nations will begin to bolster production in grains demanded by China.
And the U.S. will likely be the last resort for China.
But the corn industry has a more troubling factor on the trade side: NAFTA.
Last week, Andres Manuel Lopez Obrador (or more commonly known amongst the people as “AMLO”) won Mexico’s national election. Even though he won’t take office until December, his lopsided victory could play a significant role in Mexico’s economic policies. AMLO is not a fan of NAFTA either, meaning that Canada’s Justin Trudeau remains the only vocal supporter of the trade agreement.
While some newspapers in Washington are calling for Trump to negotiate quickly and get a “win” on trade, America is still demanding changes to dairy tariffs out of Canada and raising hell about product parts origin in the automotive sector (targeting Mexico). The longer this drags on; the more questions will emerge, and the less likely a new deal will get done.
The other unknown is how AMLO wants to govern Mexico’s economy. Some people have compared him to socialists in South America and Cuba. Others have said he is a protectionist who will move to bolster the country’s corn industry.
Regardless, Mexico continues to move away from the U.S. on corn purchases. Increased uncertainty has moved Mexican corn buyers to South America. As we’ve noted, that is the real threat that has slipped under the radar of most analysts. For perspective, Mexico has imported an average of 11 million tonnes of corn from the U.S. over the last 5 years. This accounts for about 97% of Mexico’s annual corn imports. Thus, losing access to this market could be a pretty significant hit for a U.S. corn industry that has seen bumper crops for, what is now looking like, five straight years.
South American Export Trends
The biggest beneficiary of the Chinese tariffs on U.S. farm products will be Brazil.
Premiums for Brazil’s soybeans have already evidenced that in recent weeks.
In the short-term, Brazil has been more competitive on corn and soybeans than nearby rival Argentina. That’s good news ahead of the expected surge of exports slated for August.
In 2017, Brazil exported 5.2 MMT of corn in August and another 5.9 MMT in September.
The question is whether the country is going to be able to get back on track quickly from the aftermath of the trucking strike that paralyzed the nation’s supply chain.
This week, we saw analysts cut Brazil’s corn export forecast for the 2017/18 crop year to as low as 28 MMT. That would be a 10% drop from last year’s record of 30.8 MMT and 1 MMT below the USDA’s current forecast for Brazilian corn exports in 2017/18.
Looking at 2018/19, the USDA is forecasting that Brazil will export 31 MMT. That’s still a lot of corn leaving the docks but it’s not enough to turn this into a bearish factor for the crop.
The USDA has pegged total Brazilian corn production at 96 MMT for 2018/19. While a small decline may emerge in the coming months (both due to weather and farmer switching), the corn industry will remain supported by an increasing ethanol production.
Weather Premiums in Corn Producing Regions
Take a look at the progress report and forecasts, and you’re not going to see any significant threat right now to the potential size of the U.S. corn crop. Now, we have suggested that it’s worth thinking about the possibility of what we saw in 1995.
It will take a lot of warm weather to eat into a crop of this size though. It’s a lower probability event, and hence we remain bearish on the potential to find significant weather premiums. The only possibility that’s becoming more of a likelihood these days is indeed the heat negatively affecting production potential. The usual talk of hot weather at the end of July as the U.S. corn crop is pollinating will potentially spur some buying activity by the speculators though.
For the corn crop in Europe, we watched the warmer weather in May give farmers ample time to catch up on planting. But dryness (and hail) over the last month have fueled a downward revision in expectations for the size of the EU crop.
The EU trade group Coceral slashed its expectations for the EU crop in early June. Total production was downwardly revised from 61.7 MMT to 60.3 MMT. The latter figure is lower than the 61 MMT projected by the USDA in the June WASDE.
Looking forward, dry weather across Europe and the Black Sea could continue to deteriorate those crops. But weather premiums will likely not be enough to get us back toward that $4.00 USD/bushel level in Chicago.
Changes in the American RFS Mandate
The situation didn’t look good for progress on the U.S. ethanol mandate. But this week’s resignation of Scott Pruitt at the Environmental Protection Agency (EPA) was cheered by political leaders out of Iowa.
“Scott Pruitt’s departure is long overdue,” said U.S. Rep. David Young, R-Iowa this week. “His actions as EPA administrator not only raised serious ethical concerns but hurt Iowa farmers by recklessly undercutting the Renewable Fuel Standard (RFS). I hope that Acting Administrator Andrew Wheeler will uphold the President’s commitment to the RFS and get the EPA back on track.”
As the Midterm elections approach, look for Congress to press harder on a deal to bolster ethanol use as a means to offset costly damage from the brewing trade war.
With politics out of the way, the 2019 target blending mandate from the EPA for biofuel production is 3% higher year-over-year at 19.88 billion gallons. The target for conventional biofuel – primarily corn-based ethanol – is 15 billion gallons.
China’s 2020 Ethanol Mandate
China is making an ambitious push to produce and use more ethanol by 2020. But its E-10 mandate could be in jeopardy if it is unable to secure enough raw materials to ramp up production.
Another threat? Tariffs on American ethanol would make it far more expensive for Chinese consumers who buy gas/fuel. And this for a country who is seeing the number of cars on its roads grow by 35 million per year until 2025, according to Ministry of Industry and Information. It’s important to note though that we’re still 18 months away from the mandate going into effect.
However, a prolonged trade war combined with supply uncertainty could put the program in jeopardy.
While the country has a massive supply of corn reserves, with estimates ranging anywhere between 60 MMT (USDA projection) and 166.1 MMT (International Grains Council), it has only greenlighted one major construction project – a plant in northeastern China run by the State Development & Investment Corporation (SDIC) that would have capacity to burn only 300,000 MT of corn a year.
How do Corn Prices Perform the Rest of 2018?
Will trade concerns continue to hit the markets with more bearish expectations over the summer?
We know that the second half of the year will be stronger for U.S. exports. What we don’t know is if the weather will cooperate enough to get us back to the second-half highs of 2014 and 2015. We can see in the chart below that the highs of the final six months typically come in the second week of July, which should signal bearish sentiment moving forward.
No, China doesn’t buy a lot of corn. But we know that lower soybeans are weighing on corn prices. And we’re not seeing optimism on the ethanol front from the Asian buyer. The trend to watch is in production. Where will yields be? Where will ratings be?
If this weather holds, the markets will likely retreat to that $3.50 range that we found ourselves stuck in for months last year. And though the USDA might have made errors in their estimates, there is an increasing risk of higher stocks and lower feed come September.
Over the next 6 months though, the above factors will be the main driving forces of corn prices and we’ll continue to monitor them diligently. There is certainly more risk in the market today than there was 6 months ago, what with trade wars being all the rage. If cooler heads don’t prevail, then indeed, we might see some structural shifts in trade flows of major agricultural commodities that will influence corn prices.
As such, we continue to encourage you to be a risk manager: understand the factors, both to the upside and downside. If you have questions or don’t understand something, ask us! We want to make you a better manager of the assets that are your corn production and the best way of learning is by reading/listening and asking questions.
Have a great week!
– Brennan, Garrett, and Adrian
July 1 – Corn Weekly GrainCents Digest
June 29 – US Corn Acres Down 2%, Stocks Up 2% from 2017
June 29 – StatsCan Reports 3.63 Million Acres of Corn in 2018/19
June 24 – Corn Weekly GrainCents Digest
June 21 – Organics Still Competitive, Despite Trade Dispute
June 20 – Ukraine Corn Exports Continue to Drop
June 17 – Corn Weekly GrainCents Digest
June 12 – June WASDE Shows Decline in US Corn Inventory Levels
June 10 – Corn Weekly GrainCents Digest