Revisiting Economics 101 in relation to the cattle industry

Market Talk with Jerry Klassen

When hockey players go on the ice to practice, they first warm up by skating and then they’ll practice shooting and passing. Regardless of the talent level, they go back to the basics. In this issue, I’m going back to the basics of market analysis.

I often receive inquiries from cattle producers regarding the price outlook for fed cattle, feeder cattle and the feed grains markets. After explaining supply and demand projections, it’s not uncommon to be asked: “Why should the price go down just because there are more supplies?” I usually respond with another question: “After eating two hamburgers, how much are you willing to pay for the third burger?” It appears that many producers don’t apply simple economics to the cattle market.

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Second, supply and demand are measurable. Price behaviour is not a mystery. Third, supply and demand changes throughout the year. Finally, the cattle market is a “pure competitive market,” which is characterized by many buyers and sellers. More importantly, in the long run, the margins are $0, which makes market analysis crucial to success.

The supply curve is very simple (see graph below). The higher the price, the more product will be supplied to the market. This is an upward sloping line with quantity on the horizontal axis and price on the vertical axis. The demand curve shows how much of a commodity will be purchased by consumers at a specific price. Usually, this is a downward sloping line showing that demand decreases as more supplies come on the market. I’ll take this one step further to say that beef demand is somewhat inelastic, which means a small change in supply can have a large effect on the price. Hence no one is willing to pay for the third burger.

Supply and demand.

The USDA and Statistics Canada provide producers with semi-annual cattle inventory reports. Cattle-on-feed reports are especially important. While most producers focus on the total number of cattle on feed, most analysts focus on feeder cattle placements by weight category, which is the most important data on this report. Government agencies also provide data with regard to the weekly slaughter and carcass weights to come up with weekly, monthly and quarterly beef production.

The demand equation is somewhat trickier to define. Wholesale beef prices, cold storage reports and consumer spending at restaurants can be valuable when defining beef demand. Studies show that the price of substitutes has very little effect on the beef market because half of the carcass is consumed by people with average to above average incomes. That’s why there are specialized steak restaurants. Ground beef competes with pork and chicken but there is little competition for beef tenderloin.

Supply and demand change throughout the year. The weekly slaughter pace usually experiences a seasonal low in March and April and a seasonal high during the fall period. The January through March period is usually the lowest beef production quarter of the year. There are defined seasonal tendencies in beef demand. After the Christmas holiday season, everyone wants to drop five pounds. People tend to eat more burgers during the grilling season. September is always a low point for both restaurant spending and grocery store spending when students go back to school. Families don’t usually travel in September.

The cattle market is a pure competitive market with many buyers and sellers. The fed cattle market may be defined as few buyers and many sellers. But even in this scenario, if the Canada-U.S. border is open, the market has enough buyers to be viewed as competitive. No one player has enough power to manipulate the price and the government tends to act as a referee to make sure this doesn’t occur.

Finally, if you look at a twenty- or thirty-year period of cattle feeding, the average margin for cattle feeding is actually slightly negative. If a feedlot bought feeders every week and sold fed cattle every week over a thirty-year period, so that the operation was buying and selling every week and also paying the market price for feed grains, the average margin over the long run would be slightly negative. Ranchers, backgrounders and finishing feedlots are constantly pushing efficiencies. Consolidation in the cattle- or beef-producing business is a sign of a mature market.

In conclusion, producers need to be aware of supply and demand projections for the year so that they can plan their marketing or risk management strategies. Price behaviour is not a mystery because supply and demand are measurable.

You don’t need a degree in economics to be successful in your cattle marketing. However, paying attention to price projections or government data can enhance your bottom line to make sure that over the long run, you are successful.

About the author

Columnist

Jerry Klassen manages the Canadian office of Swiss-based grain 
trader GAP SA Grains and Produits Ltd., and is president and founder 
of Resilient Capital specializing in proprietary commodity futures trading and market analysis. Klassen consults with feedlots on risk management and writes a weekly cattle market commentary. 
He can be reached at 204-504-8339.

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