I’ve received many calls from cattle producers over the past couple of weeks with regard to the feeder cattle outlook for the spring period. Feeder cattle prices made seasonal highs during the first week of October and then started to trend lower. This weakness caught many cow-calf producers off guard as they failed to realize the fundamental situation that would result in lower prices. Backgrounding operators are also facing a negative margin structure. At the time of writing this article, the March feeder cattle futures had dropped nearly $15 from the contract highs. Backgrounders who bought expensive calves earlier in fall are now wondering if they should buy price insurance now even though they can’t lock in a profit. This is a market that is in a very precarious situation; therefore, I thought this would be an opportune time to discuss factors that will influence the feeder market. No two consecutive years are the same in the cattle market and it’s prudent that producers alter their marketing strategies accordingly.
In my September article, I mentioned that the USDA estimated the January through June calf crop at 26.6 million head, up 600,000 head from last year. U.S. auction market receipts have been hovering near 52-week highs and feedlot placements during November and December will likely come in four to six per cent above year-ago levels. The Canadian calf crop is expected to be very similar to year-ago levels. The number of Canadian cows and heifers that have calved as of July 1 was marginally lower than July 1, 2017.
In addition to the larger U.S. calf crop, there is a major difference this year in the marketing pattern for producers in the Southern Plains. During the fall of 2017, this region of the U.S. experienced drier conditions, which continued into March 2018. This resulted in higher feeder cattle placements in the first quarter of 2018. This fall, the Southern Plains has received plentiful precipitation and the U.S. winter wheat and rye are off to a great start. Pasture conditions are also in excellent shape. Given the current conditions, we’ll see a surge in U.S. feeder cattle placements next March and early April as feeder cattle move off small grain pasture. At the time of writing this article, the March 2019 feeder cattle futures were trading at a $7 discount to the nearby November contract. The inverse in the futures market tells producers that the feeder cattle prices will decline from now until spring.
Given the year-over-year increase in feeder cattle placements, the USDA is projecting a rise in second quarter beef production. Second-quarter beef production is expected to finish at 6.970 billion pounds, up 250 million pounds from the second quarter of 2017. Notice that third-quarter beef production is expected to come in at 7.170 billion pounds, up a whopping 350 million pounds from the third quarter of 2018. The function of the beef market during the summer of 2019 will be to encourage consumption through lower prices. Producers should note that the market needs to discourage production. This will cause more cows to move into the slaughter mix.
U.S. consumers experienced an increase in income during 2018 due to the personal tax cuts. This resulted in a surge in restaurant and retail food spending. Data shows that restaurant spending was up nearly 10 per cent from year-ago levels. This is unsustainable in the longer term. During 2019, restaurant and retail spending may rise by two to three per cent, the same rate as inflation. Therefore, we can say that beef demand will remain constant throughout 2019. Lower prices will be needed to encourage additional consumption.
In conclusion, feedlot margins will move into negative territory in the second quarter of 2019. Therefore, feedlot operators will lower their buying ideas for feeder cattle so that they can pencil a profit. Feeder cattle prices have potential to drop $20 to $30 from current levels. The feeder cattle market will function to encourage demand and discourage production through lower prices. I’ve attached a chart of the monthly feeder cattle futures. The feeder cattle futures have potential to trade under $120 to discourage production. Remember; the range from $100 to $120 is where the feeder cattle market discourages production.