Market Preview: What a nice problem to have - high prices

US - Weekly U.S. Market Preview for 23rd June, provided by Steve R. Meyer, Ph.D., Paragon Economics, Inc.
calendar icon 24 June 2006
clock icon 5 minute read

The hog market's remarkable summer run continued this week with carcass prices quoted at over $80 on Wednesday and Chicago Mercantile Exchange (CME) Lean Hog Futures reaching contract highs across the board. Both of those markets have backed off a bit, but what a nice problem to have -- high prices!

Short hog supplies continue to be confirmed. Last week's Iowa-Minnesota average hog weight was nearly 2 lb. lower than the prior week and nearly 4 lb. lower than one year ago. That reduction hasn't shown up in the national data, but weights in the Iowa-Minnesota market are far more sensitive because it is a smaller sample and it is the largest hog-deficit region of the country.

When packers scramble in Iowa, they really scramble, and they pull some lighter hogs into the slaughter mix.

The decline in CME Lean Hog futures prices on Wednesday could be a signal that the market is topping. Every contract fell below the 5- and 10-day moving averages that some use to indicate short-term reversals. The contracts for the remainder of 2006, though, closed above the 10-day moving average on Thursday, so that casts some doubt on the validity of the reversal. February and April 2007 remained below the short-run moving averages today. All contracts are still far above the 50-day moving average that is widely used to indicate major trend changes.

The North American Pork Industry Data Table for this week shows positive year-over-year hog and pork prices for the second week in a row after spending all year on the minus side. As I've pointed out before, that is partly due to the fact that prices were in a free-fall at this time last year when belly inventories were dumped. Note the largest year-over-year price change in the data table is bellies at +30.4%. USDA reported the primal belly value at over $1.00/lb. on Thursday.

Producer-Owned Packing Felt

While cutout values have been excellent and have served as the main driver for this hog market, the shift of a large number of hogs from the open market into producer-owned packing plants has been a big driver as well, especially in the critical Iowa-Minnesota area. A phone conversation with my mentor and colleague this week, Professor Glenn Grimes of the University of Missouri, underscored the shifts that are taking place.

Professor Grimes pointed out the shift in recent months of hogs purchased under the various pricing systems tracked by USDA as part of the sort-of-mandatory price reporting system. (Sorry, I couldn't resist that dig at our wonderful legislators!)

Figure 1 shows the percentage of total daily purchases represented by four categories of purchases. Note that I have put all of the contract types into one category.

Fig.1 - Hog Marketing shares by purchase type

It is obvious that the mix has been changing since early this year. We all expected the packer-owned share to rise when Triumph Foods began operations in St. Joseph, MO. Pigs shipped by Christensen Farms, Hanor, New Fashion Pork and the other owners of Triumph to the St. Jospeh plant had previously been sold to Tyson, Hormel, Excel and others -- apparently under some type of marketing contract. The same is true of pigs shipped to Meadowbrook Farms in Illinois.

The most interesting line on the graph, though, is the one representing packer-sold hogs. That share has risen from just under 3% in February to 8% in May. That category has been comprised of packer-raised pigs that were in geographic locations not conducive for shipment to the packers' own plants. The lion's share of those pigs was sold by Smithfield's Circle Four operation in Utah to Clougherty Packing in Los Angeles.

But now it also includes hogs sold in Iowa by various production groups that are affiliated with Smithfield, Excel and, most recently, Hormel. Those companies entered consent agreements with the Iowa Attorney General that stated they would take certain actions and abide by certain restrictions in return for the attorney general not pursuing actions under Iowa's packer ownership ban. Those agreements quite rightly caused USDA Market News personnel to say, "If those aren't packer-sold swine, then why does there need to be a consent agreement?" If it walks like a duck, quacks like a duck -- well, you know!

So USDA has moved those animals out of the contract categories and placed them in the packer-sold swine category, even though the business arrangements are the same as they have always been. USDA is asking for much more detailed information from packers about the sources of pigs.

These data do not portray some huge structural shift in the pork industry. It is certainly not some big shift in the role of packers. The increase in packer-owned swine reflects the downstream vertical integration move of producers into packing. The shift of hogs to the packer-sold category is probably long-overdue transparency, but still represents no real change in the price discovery process that has been used for the past four years.

Negotiated sales -- the backbone of the price discovery process on a day-in, day-out basis -- still account for about 10% of all hogs purchased.
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