July 9, 2012

As the worst US drought in 23 years continues on its path of devastation, the US government may be forced to make its highest ever reduction in its July estimate for domestic corn inventories.

Tumbling yields will combine with the greatest-ever global demand to leave US stockpiles on Sept. 1, 2013, at 1.216 billion bushels (30.89 million metric tonnes), according to the average of 31 analyst estimates compiled by Bloomberg. That's 35% below the US Department of Agriculture's June 12 forecast, implying the biggest reduction since at least 1973. The USDA updates its harvest and inventory estimates July 11.

Crops on July 1 were in the worst condition since 1988, and a Midwest heat wave last week set or tied 1,067 temperature records, government data show. Rabobank International said June 28 that corn may rise 15% more by December to near a record US$8 a bushel.

Crops on July 1 were in the worst condition since 1988, and a Midwest heat wave last week set or tied 1,067 temperature records, government data show. Prices surged 37% in three weeks, and Rabobank International said June 28 that corn may rise 15% more by December to near a record US$8 a bushel. The gain is threatening to boost food costs the United Nations says fell 15% from a record in February 2011 and feed prices for meat producers including Smithfield Foods Inc. (SFD)

"The drought is much worse than last year and approaching the 1988 disaster," said John Cory, the chief executive officer of Rochester, Indiana-based grain processor Prairie Mills Products LLC. "There are crops that won't make it. The dairy and livestock industries are going to get hit very hard. People are just beginning to realize the depth of the problem."

Corn rallied 18% in the month through July 6 on the Chicago Board of Trade to US$6.93, trailing only wheat among 24 commodities tracked by the Standard & Poor's GSCI Spot Index, which rose 2%. The MSCI All-Country World Index of equities advanced 4%, and the dollar gained 1.3% against a basket of six currencies in the period. Treasuries returned 0.5%, a Bank of America Corp. index shows. Corn for December delivery in Chicago extended the rally today, gaining as much as 3.4% to US$7.1625 a bushel.

About 53% of the Midwest, where farmers harvested 60% of last year's US crop, had moderate to extreme drought conditions as of July 3, the highest since the government-funded US Drought Monitor in Lincoln, Nebraska, began tracking the data in 2000. In the seven days ended July 6, temperatures in the region averaged as much as 15 degrees Fahrenheit above normal. Soil moisture in Illinois, Indiana, Ohio, Missouri and Kentucky is so low that it ranks in the 10th percentile among all other years since 1895.

Fields are parched just as corn plants began to pollinate, a critical period for determining kernel development and final yields. About 48% of the crop in the US, the world's largest grower and exporter, was in good or excellent condition as of July 1, the lowest for that date since 1988 and down from 77% on May 18, government data show.

The USDA may cut its production forecast by 8.3%, the biggest July reduction since a drought in 1988 led the government to cut its estimate by 29%, a separate Bloomberg survey of 12 analysts showed. Farmers probably will collect 13.559 billion bushels, compared with the USDA's June estimate for a record 14.79 billion, the survey showed.

Goldman Sachs Group Inc. said July 2 that yields will reach 153.5 bushels an acre, below the USDA estimate for an all-time high of 166.

"Corn yields were falling five bushels a day during the past week" in the driest parts of the Midwest, said Fred Below, a plant biologist at the University of Illinois in Urbana. "You couldn't choreograph worse weather conditions for pollination. It's like farming in hell."

Even with the drought, US production in 2012 is expected to rise 9.7% from last year to a record after farmers sowed the most acres since 1937, the survey showed. Higher output would help boost inventories before next year's harvest, up from what analysts said will be a 16-year low on Sept. 1 of 837 million bushels.

Futures fell 2.2% on July 6, the most in two weeks, after the USDA reported a 90% drop in export sales in the week ended June 28. US refiners curbed output of corn-based ethanol last week to the lowest since September as gasoline demand weakened, government data show.

Corn's rally also may stall if Europe's widening debt crisis and a faltering global economy erode record demand for the grain. The International Monetary Fund will reduce its estimate for growth this year because of weakness in investment, employment and manufacturing in Europe, the US, Brazil, India and China, Managing Director Christine Lagarde said July 6.

"The shrinking global economy is the elephant in the room that no one wants to discuss as long as US crops are under siege," said Dale Durcholz, the senior market analyst for Bloomington, Illinois-based AgriVisor LLC. "Corn demand at US$5 is much more robust than when it costs US$7."

Corn tumbled into a bear market in September and kept dropping as farmers planted more crops. Robert Manly, the chief financial officer at Smithfield Foods, the largest US pork producer, told analysts on a June 14 conference call that hog- raising costs would "begin to decline starting in the fall." Prices have surged 34% since then, reaching a nine-month high on July 5.

US corn production may drop to 11 billion bushels, the smallest crop in seven years, because the hot, dry weather killed the pollen and rains now may be too late to reverse the damage, according to Cory, the Indiana mill owner and a former investment banker. Prices may reach US$9 before demand slows, he said.

World corn use rose to a record every year since 1997 as the expanding economy boosted incomes and the consumption of meat and dairy products from animals raised on the grain. The USDA projected last month a 6.4% increase in global demand to 923.39 million tonnes in the year that starts Sept. 1, the biggest gain in six years. More US output went to ethanol production than livestock feed in 2011 for the first time ever.

While the US harvest is about two months away, the drought reached plants at the most vulnerable period in their growing cycle, said Nick Higgins, a London-based analyst at Rabobank, predicting a 13.488 billion-bushel harvest.

Based on current soil moisture and June temperatures, the drought is probably the worst since 1988, said Joel Widenor, a vice president at the Commodity Weather Group in Bethesda, Maryland. The private forecaster said July 5 that corn output this year will be 13.52 billion bushels, and that hot, dry weather in the next two weeks may reduce yields further.

The drought may spark a rebound in global food prices this month through October, halting a slide that sent costs in June to the lowest level in 21 months, Abdolreza Abbassian, an economist in Rome at the United Nations' Food & Agriculture Organization, said July 5.

"Corn is key because of its widespread use as a base ingredient in so many foods and for its use in feed for livestock," said Stanley Crouch, who helps oversee US$2 billion of assets as chief investment officer at New York-based Aegis Capital Corp. "We are at the tipping point."