March 9, 2018
Is the stage set for a bear market corn rally?
Even if the USDA overestimated the size of Argentina's drought-dented harvest, the relative scarcity of feed grain relative to oilseeds gives corn upward potential.
By Eric J. Brooks
An eFeedLink Hot Topic
The most recent USDA report hit investors by surprise, going beyond the market's worst fears for corn while knocking the wind out of a drought-driven bear market soybean rally. From early February bottoms, corn rose 8% going into the WASDE report's morning while soy jumped 11%. It soon became apparent that investors who been too bullish on beans and too bearish about corn.
Prior to the report, from an early February bottom at US$9.70/bushel, worsening dry conditions carried soy up 11.3% to a peak of US$10.77/bushel, before reports of impending rainfall pushed it back down to near US$10.65/bushel several days before the report was released.
For most of the first quarter, Argentina's drought shriveled soy harvest was the southern hemisphere's leading market story. From as much 57 million tonnes early in its growing season, the Buenos Aires Exchange lowered its estimate to 44 million tonnes while bellweather industry publication Oil World projected 42 million tonnes,
But the USDA spoiled all these bullish expectations, pegging its estimated 2017-18 Argentine soy crop at an unexpectedly high 47 million tonnes. The USDA may later be forced to revise this forecast, which ignores pessimistic ground level industry reports of up to five million tonnes of additional harvest losses. For now, this minimal 17.5% estimate of Argentine soy losses was further offset by a one million tonne upgrade to Brazil's forecasted harvest.
Had the market's worst fears had been realized, world soy inventories would have fallen from 2016-17's 96.7 million tonnes to below the psychologically important thresh hold of 90 million tonnes. For now, they are on track to an immaterial leveling out at 94.4 million tonnes.
A soy stocks-to-use ratio below 22% is needed for prices to experience a sustained rally. This nominal inventory decline means that the stocks-to-use ratio will fall from 28.6% to 27.5%. That's nowhere near enough to set the market on fire. Soy sank on the news, closing out the day at US$10.55/bushel. Short of a downward revision to the official USDA forecast, it appears poised to fall further in weeks to come.
While the USDA disappointed soy investors, those holding corn were pleasantly surprised: After a month of anxiety about drought's impact on Argentine soybeans, it appears that it corn supplies have taken a bigger hit. Percentage-wise, the 14.3% downward revision in corn harvest size from 42 million early in the growing season to 36 million tonnes is slightly less than the losses suffered by soy farmers.
The difference is that Argentine feed crops are export-oriented and the world market for corn is tighter than that for soy. With demand for US corn holding up well and several million tonnes of Argentine supplies disappearing from the world market, America's corn export forecast jumped 8.2%, from 52.1 million tonnes to 56.5 million. With the US livestock consuming feed than anticipated, higher foreign demand was complimented by a 1.3 million upward revision to US feed corn consumption, to 319.9 million tonnes.
With both domestic and foreign producers making greater demands on US corn, America's 2017-18 closing inventory projection was cut by nearly 10%, from 59.8 million tonnes to 54.0 million.
Moreover, while Brazil's soy production was revised nominally upward, rainy weather is delaying its harvest. This is causing its sahfrinha (second growing season) corn harvest to be reduced by 0.50 million tonnes. The net impact of these market tightening events was to pull expected closing world inventories from 203.1 million tonnes to 199.2 million. Compared to 2017-18's bloated 231.9 million tonnes of world inventories, that is a drastic 14% move towards market equilibrium.
With low prices stimulating world feed demand for corn, global consumption went in the opposite direction, rising from 1.068 billion tonnes to 1.074 billion. All this implies that corn's stocks-to-use ratio will fall from 2017-18's high level of 21.9% to 18.5% this year. On one hand, that's hardly bull market territory, which requires a stocks-to-use ratio below 15%.
On the other hand, there is now a 33 million tonne gap between 2017-18's world corn output (1.041 billion tonnes) and consumption (1.074 billion tonnes). -Even before all this information came out, early 2018's soy rally had created talk of US soy planted acres exceeding those of corn for the first time -yet corn is clearly more scare than soy. It requires more crop acreage in the coming, not less.
Hence, it is not surprising that while soy prices sank, corn responded to the WASDE report by jumping to US$3.93/bushel, its highest close since last August. -But is that a peak price, or can corn go higher?
At the time of this report's writing, the corn:soy price ratio is 2.68 ---but it needs to fall below 2.50 before farm acres are shifted from soy to corn. There are two ways this can happen: Corn's price can rise, or soy's price can fall, until a sub 2.50 corn:soy price ratio is achieved.
The US$10.55/bushel soy price at the time of publication implies a corn price of US$4.22/bushel or higher. Should corn fall to US$10.00/bushel in the coming weeks, that still implies that for enough corn to be planted, it needs to be priced at a minimum of US$4.00/bushel.
Even if soy falls to slightly below its February 2018 market bottom and touches US$9.60/bushel, that still implies that corn needs to be priced above US$3.84/bushel. Keep in mind that there is a high chance that the USDA underestimated how much soy was lost in Argentina's drought.
Needless to say, any downward revision in the Argentine harvest's size will push up the price of soybeans -and with it, the cost of corn, which can only increase acreage if it sells for more than 40% of soy's price.
Implication? Unless a macroeconomic shock constricts market liquidity and induces a commodity price collapse, there is very little risk of losing money on corn priced near US$3.90/bushel, with significant potential for short-term profit gains. The stage is set for the golden grain to enjoy a limited but still profitable, short-term bear market rally.
All rights reserved. No part of the report may be reproduced without permission from eFeedLink.