April 8, 2014
Stalled, but profitable: America's swine sector tops out
Amid a PEDv epidemic, high prices and falling feed costs, returns are high as output and exports top out.
by Eric J. BROOKS
An eFeedLink Hot Topic
America's swine sector finds itself beset by both hope and challenges. Hog numbers have taken a hit and exports are stagnant, but at least profit margins are healthy.From a peak of US$22/head in the third quarter of last year, US hog rearing gross margins have plunged 77% to US$5/head in the fourth quarter, when the cyclical third quarter production upturn caused live hog prices to fall 13%. Current prices are not much higher than they were two years ago, but with feed costs up to 30% lower, the prices offer a good return compared to the many quarters of net losses suffered during 2011 and 2012's feed cost inflation.
Good margins, flat output
Going forward, PEDv's constraining impact on US pork supplies is made worse by Country of Origin Labeling (COOL) laws, which is reducing the quantity of Canadian pork that can be imported to bridge the emerging supply shortage.
With domestic demand growing amid limited supplies, Rabobanks's Pork Quarterly Q1 2014 forecasted net margins to rebound to an average of US$33/head. While this might be too optimistic in light of recent increases in corn and soy costs, net margins should at least recover to the US$20/head to US$25/head range, which would make it of the US swine sector's most profitable years in decades.However, behind such passing market considerations, the shadow of porcine epidemic diarrhea virus (PEDv) has spread to every major American hog producing area and even jumped across the border into Canada. PEDv's shadow looms large, making it difficult for producers to take advantage of improving market conditions.
It has had a devastating impact on inventories in several ways. Along with the resulting hog deaths, despite the high hog prices in effect last year, farmers fearing further losses to PEDV, cut their swine breeding efforts. The number of US breeding sows ended 2013 1.3% lower than the previous year. Moreover, after seeing the number of piglets per litter consistently rise since the early 2000s, the average number stayed flat for the first time in a decade.
Though the March hogs report showed inventories down by 3%, the USDA expects it to make inventories fall 5% in 2013.
Over the short-term, PEDv's high mortality numbers, particularly among piglets, caused pork production to remain flat, falling a nominal 0.24%. This year, with feed costs much lower than they were in early 2013, farmers wish to take advantage of the opportunities created by low feed costs and the current domestic pork supply shortfall.
With inventories staying flat, they are doing so by growing hogs to higher finishing weights. The USDA expects the higher finishing weights to counterbalance a nominal fall in hog numbers, resulting in nominal 0.7% increase in pork production to 10.63 million tonnes. That is a lot less than the 3% increase initially expected, before PEDv's devastating impact was fully appreciated. It is also only 0.5% higher than 2012's output and 2.6% higher than 2011's production.
Trade performance tops out
Along with PEDv, trade frictions and a slowing world economy have put an end to the American pork sector's once impressive export growth. In the ten years from 2003 to 2012 inclusive, they rose an impressive 222%, from 0.76 million tonnes to 2.22 million tonnes.
Unfortunately, 2013's banning of US pork from China and Russia due to the presence of ractopamine coincided with South Korea's post FMD outbreak rebuilding of domestic hog herds. With three major US export destinations curtailing their US pork import requirements and PEDv constraining available supplies, exports fell 7.2%, their first drop since the 2008 world recession, when they fell an even sharper 12.2%.
This year, both China and Russia have responded to steps taken over the last few months to ensure that pork exports to those destinations do not contain ractopamine. China has allowed US pork exports to resume. Russia initially announced a conditional lifting of the ban on US pork but it is thought that this may become a casualty of the recent Crimean crisis, where both sides are threatening the other with economic sanctions. Hence, even though Russia recently banned pork imports from Poland and Lithuania, it also officially expressed interest in substituting supplies from China in their place.
Moreover, both Russia and China liberalized their pork import requirements with Brazil, meaning that US pork will face more competition in these markets, especially given the dollar's 15% appreciation against the real over the last year. Finally, South Korean import volumes are falling as its domestic production continues to recover from a disastrous FMD outbreak, though a recent free trade agreement with the US may help protect its market share, even if shipments to that country fall.
Similarly, Japan's falling yen is expected to make it slash all its pork import volumes from all sources, America included. With China, South Korea, Russia and Japan accounting for around 45% of US pork exports and other fast growing Asian markets facing recessionary conditions, the American swine sector's trade performance cannot help but be adversely impacted.
But the trade front also has hopeful frontiers. Recent years has seen trade agreements signed with Columbia, Honduras and Chile. Along with Mexico, all these markets are now allowing US pork in either tariff free or with very low, immaterial import duties. Their rapid demand growth for US pork is expected to offset falling Asian exports. That is expected to put US pork export volumes at 2.31 million tonnes, leaving them 4.7% below 2012's record amount and even a touch below 2011's 2.37 million tonnes.
Home market provides stability, and competitive
Going forward, long term trends should see the tide turning back in favour of US pork. Exports have topped out, and at 21.8% of output and yes, that does matter. Exports kept America's swine sector healthy in the years 2005 to 2011, when consumption fell for four out of seven years –and when domestic consumption was lower in 2011 than it was in 1999.
Fortunately, after seeing domestic consumption decline for most of a decade, it has now grown for three years in a row, rising 2.1% this year. Finally, after years of secular decline, even per capita consumption has increased by 2.9% over three years, from 20.6kg to 21.2kg.
Although these are small percentage increases compared to the previous decade's double digit export growth, the domestic market's large size means that a 2% rise in consumption is equivalent to the volume generated by a 9.2% rise in exports. With American employment and income numbers again growing, the domestic market is providing support as exports taper off.
While demand is assured, it is thought the PEDv epidemic should be under control and a recovery in inventories and supplies will take place in the latter part of this year. Even with supplies improving, the long-term prognosis is for feed costs to stay low and live hog prices to finish 2014 strongly. Rabo AgriFinance projects profit margins to decline from its projected US$33/head in 2014 to around US$20.50/head in 2015, which would still make for reasonable sized profits.
By that time, the US dollar's secular upswing against Brazil and Canada's currencies should have turned downwards, helping augment its pork export competitiveness. It is doubtful that the stellar 10%+ export increases of the 2001 to 2012 can be achieved again. But even with exports keeping pace with the world pork market's long-term 2.5% growth rate, with domestic demand growing and the era of falling per capita consumption behind it, America's swine sector is poised to power itself past this year's troubles, and earn some fat profits along the way to doing so.
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