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Australian Rural Commodities Wrap


24 June 2014

NAB Australian Rural Commodities Wrap - June 2014NAB Australian Rural Commodities Wrap - June 2014

Supported by still-low bond yields and more positive economic data from China and the US, global equity markets maintained their upward trend in May to close higher in general.
Rural Commodities Wrap published by National Australia Bank

Recent Global Economic and Commodity Updates:

  • However, commodities markets were more mixed. Energy prices were boosted by heightened geopolitical tensions in Ukraine, and more recently, sectarian strife in Iraq, meanwhile iron ore prices fell sharply on abundant supplies. Agricultural commodities were dragged lower by weaker grains and dairy prices.

  • The levelling out in advanced economy growth seen in industrial business surveys since late 2013 has now been reflected in the harder data on their industrial output and trade. March quarter national accounts for the G7 advanced economies confirm a slowdown with quarterly growth slipping from December’s 0.5% to around 0.25%.

  • Growth in the emerging market economies of Asia and Latin America has continued to gradually slow. As a result, global growth stalled at a moderate rate of around 3¼% year on year through end 2013 and early 2014.

  • Low inflation in the US and UK plus below target price rises in Japan and the Eurozone, mean there is no urgency in lifting advanced economy interest rates to more “normal” levels. Central banks in Japan and the Euro-zone are focussed on combating deflationary risks which points to loose monetary policy for a long time to come.

  • The Federal Reserve is still cutting its asset purchases at a rate that should see the programme finish late this year. Interest rates look set to stay between zero and 0.25% for the remainder of the year.

Domestic Economy

  • Released in the first week of June, the Q1 Gross Domestic Product (GDP) result for Australia printed at 1.1%, just marginally stronger than NAB’s forecast of 1.0% while markets expected 0.9%.

  • The stronger-than-expected result has been sustained by robust exports (mainly minerals and energy) and weaker imports (especially capital equipment). However, domestic final demand remains subdued, as consumers continue to be cautious with their spending and federal and state governments practise fiscal restraint. Business continues to demonstrate little appetite for debt, with business credit growing by 0.3% in April to be only 2.7% higher than a year earlier.

  • While business confidence appears to have emerged from the Budget intact, conditions continued to slip in May, according to the NAB business survey. Manufacturing and wholesale bore the brunt of the renewed weakness, particularly through a sharp decline in trading conditions. Forward indicators remain weak: orders rose to be barely out of negative territory and capacity utilisation was unchanged and below long-run averages for most industries.

Interest Rate:

  • The Reserve Bank of Australia (RBA) kept the cash rate at 2.50% in June as expected and maintained its neutral bias. The RBA still seems optimistic about the economic outlook, and believes that export growth, consumption and dwelling investment will support the economy as resource investment declines. Meanwhile the non-mining business investment improvement is still described as “tentative,” but the RBA appears slightly more confident on this as it added that there are ‘emerging’ signs of improvement in other sectors.

  • The RBA continues to state that policy is accommodative enough already, so a further easing is also unlikely in the near term. NAB expects that the cash rate will remain unchanged until the last quarter of 2015.

The Australian Dollar

  • In May, the AUD continued its momentum, ending the month at USD 0.93. Nonetheless, with market volatility at historic lows, the AUD remains in very tight ranges.

  • Beyond immediate data releases, there are a number of factors driving the AUD. The low volatility environment means that NAB’s AUD present value model is holding at relatively high levels. While the AUD present value models still show upside, with iron ore and yields declining, the pressure is lower.

  • In May, the iron ore price dropped sharply, continuing the general downward trend which began in mid-2013. With iron ore constituting 33% of Australia’s commodity exports and thus a significant influence on the terms of trade, a divergence between the two is only sustainable for short periods of time. This points to strategic downside pressure on the AUD over time. However, given the plethora of correlation breakdowns occurring in financial markets at present, NAB does not expect rapid adjustment in the near term unless the global environment starts to re-price risk and volatility rises.

Domestic Agricultural Outlook

Production Outlook:

  • While the past winter crop harvest was unaffected by drought conditions, the summer crop harvest this year is estimated to have fallen by 33% to 3.7 million tonnes. So far winter crop planting has progressed well which portends a reasonable outcome for 2014-15, but unlikely to repeat the strong volumes of 2013-14. ABARES expects that winter crop production will fall by 12% in 2014- 15. Some downside risks to the outlook will stem from the likely occurrence of an El Niño event.

  • Red meat production and exports continued to proceed at a rapid pace in the first five months of the year on high slaughter rates but supplies are likely to tighten in the second half of this year.

Climate Conditions Update:

  • According to the Bureau of Meteorology (BOM), a drier than normal winter is likelier to take place for southern and tropical north parts of Australia, however Tasmania has a 65% chance of experiencing a wetter than average winter.

  • A transition towards an El Niño event appears to be currently taking place, typically associated with warmer Pacific Ocean temperatures and drier than normal conditions for major parts of Australia. More than half of the BOM climate models suggest that El Niño will become established by August.

  • While the drought conditions in the north eastern parts of Australia have ameliorated in recent months, these areas continue to suffer from significant rainfall deficiencies. May rainfall was generally below average for the eastern seaboard, northern New South Wales and southern and western Queensland.

Rural Commodities Index:

  • The Rural Commodities Index eased slightly in May in largely in response to moderate declines in the prices of livestock and dairy. The May results reflect relative market stability following a period of greater tumult in March and April. Overall, the Index declined 1.2% in AUD terms and 1.3% in USD terms. Beef and lamb both fell 4% in May in AUD terms, having risen substantially in the two months prior, reflecting a slightly disappointing end to otherwise decent autumn rainfalls. Dairy (-4%) and cotton (-4%) both suffered their third straight month of decline, whereas wheat (+4%), barley (+5%) and sugar (+3%) posted moderate gains.

NAB Farm Input Prices:

  • Over the past month, global Diammonium Phosphate prices fell to USD 445/tonne while urea prices have dipped further to USD 290/tonne. Meanwhile natural gas prices also retreated from their historic high in February to around USD 4.6/mmBtu, unchanged from April. Overall, the AUD fertiliser index fell 1% in May, reflecting a stabilisation from much greater falls in March and April. The hangover from high inventories over autumn combined with reports of domestic farmers having secured orders early in the season point to muted fertiliser activity over winter. Underlying fuel prices are likely to be influenced by recent sectarian strife in Iraq, however price increases are likely to be mitigated by minimal disruptions to supply thus far.

NAB Weighted Feed Grain Prices:

  • Domestic feed grain price growth has slowed on the back of encouraging autumn rainfalls and above average autumn temperatures, which saw pastures rebound after a poor summer. However, strong red meat export prices combined with disappointing May rainfall in some areas has continued to encourage the fattening and slaughtering of cattle and sheep in recent months, maintaining the strength in feed grains demand. Poor spring rainfall prospects if an El Niño weather pattern settles will likely weigh on the mind of farmers and may lead to higher domestic feed grain demand approaching spring and summer. Internationally, while drought conditions continue to persist in much of the southern and western US, greater hope of reasonable corn yields may place some downward pressure on feed grain.

Agricultural Sectors

Cattle:

  • Average cattle prices eased slightly (-4%) to AUc 336/ kg carcase weight, but are around 15% above the same period last year as decent rainfalls in March and April across central and southern parts of Australia helped to boost restockers’ confidence, although a drier than normal May lent a somewhat poor finish to the wet season. This potentially led to a partial reversal of the price momentum seen in the earlier months.

  • In the meantime, slaughter rates in May trailed closely behind the record pace seen in February and early March this year, culminating in an all-time high for beef and veal exports in the month and marginally eclipsing the record set merely two months ago in March.

  • Australian exports of beef and veal reached an unprecedented level of 108,000 tonnes in May, after only breaching the 100,000 tonnes mark for the first time in history just a year ago.

Wool:

  • Wool prices appeared to have stabilised in May, after a straight four-month loss since January this year. The Eastern Market Indicator rose by 1.2% to average 1040 AUc/kg in the month.

  • Foreign demand conditions showed some improvements towards the end of the month, prompted by unusually high prices of South African supplies that resulted in some level of switching to Australian wool.

  • For some months now, the Australian wool market has been gripped by soft demand conditions, partly reflecting the lack of credit access by Chinese manufacturers as Chinese authorities clamped down on lending and raised required capital to loan ratios for a number of banks. Furthermore, the quality of the wool offerings has deteriorated as drought conditions in NSW and Queensland wear on, which served to cap the upward momentum of prices. Weekly quantities offered in May and June so far were generally above that of the same time last year as well.

Wheat:

  • Global wheat prices, indicated by Chicago Board of Trade (CBOT) wheat futures, fell steadily over most of May and early June on the outlook of growing global supplies. While persistent drought conditions in the US have dented production prospects for the 2014-15 season, with the US Department of Agriculture (USDA) forecasting a 9% fall in wheat production, output from most other major grain producing countries, such as Russia, China, India and Europe are expected to be robust. China, the world’s largest grain producer, is expected to reap a record wheat harvest of 122MT in 2014 as favourable spring weather and increased plantings boost production. Meanwhile, output and exports of soft wheat from France has been steady as well, while the Black Sea region’s supply has not been disrupted by the ongoing political volatility.

  • Domestic wheat prices, while tracking global trends to be lower from earlier weeks, continue to maintain a premium to international prices on the back of continuously supportive domestic fundamentals, as strong red meat export prices and persistent dryness continued to encourage the fattening and slaughtering of cattle and sheep in recent months, maintaining the strength in feed grains demand.

Dairy:

  • Global dairy commodity prices fell for the third consecutive month in May (-4%), according to BNZ’s global weighted index, but remain at historically elevated levels. High farm gate milk prices across New Zealand, Australia, the US and Europe last year have triggered a positive supply response by major producers in the northern hemisphere this season, with milk production generally up in the first quarter compared to a year ago. Milk flows from Europe are about 6% above the same time last year in Q1, led by the UK (+12%) and France (+8%), and look set to expand further as the abolition of the milk quota in 2015 draws closer.

  • In Australia, above-average rainfall in the southern parts of the country during the autumn months has bolstered milk production during the period, with national production up by 3.7% and 5.6% respectively in March and April, narrowing the year-to-date deficit to 0.8%.

  • Looking ahead, the tightening of Oceanian supplies as the production season draws to a close is expected to lend a floor to prices, while Chinese imports maintain a strong pace given a persistent production deficit.

Sugar:

  • In monthly average terms, global sugar prices rose by 3% in May but remained subdued overall as a persistent and growing supply overhang continues to weigh on market sentiment.

  • Despite recent drought scares in Brazil, global sugar production in 2014-15 is expected to outstrip demand for the fifth consecutive year, culminating in a near-record ending stock level of 44.4MT.

  • Lower production and exports from Brazil this season will be mostly offset by increases in India, where exports are further encouraged by a government subsidy of Rs 3300 ( approximately AUD 59) per tonne of raw sugar up to 4 million tonnes during 2013-14 and 2014-15 marketing years (October- September).

Cotton:

  • Cotton prices have lost some recent lustre since peaking in early May at close to 95 USc/lb as markets turned away from concerns about the US harvest this year. The 2014-15 global supply projections in the latest USDA World Agricultural Supply and Demand Estimates (WASDE) in June, showed that surplus production entered a fifth consecutive year and revised up ending stocks by 1.05 million bale to 101.7 million bales.

  • Meanwhile, Chinese imports in 2014-15 have been downgraded to 8 million bales from 8.5 million bales in the May report, a sharp decline from a recent high of 35 million bales in 2012-13. The rapid accumulation of Chinese state cotton reserves in the past three years and the recent policy switch to offering direct subsidies to farmers as a means of income support instead of statedirected procurement suggest that global import demand will be tepid in the coming years. The Chinese National Cotton Reserves started to offload cotton stocks into domestic markets late last year and the pace is expected to pick in the coming year.

  • In Australia, worsening drought conditions during summer last year and wet conditions during the harvesting months have constrained the 2013-14 output, with the latest ABARES crop report pegging at 4.1 million bales, compared to their first forecast for the year of 4.6 million bales. A lower planting area was partly offset by higher yields.

June 2014

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