Prepared by Richard A. Brock & Associates, Inc.
One year ago today central Illinois cash corn prices were $4.79. Today they are $2.40–a decline of 50%. Wheat in Kansas City was $5.87 and today it is $3.50. On the other hand, soybeans were $7.58 and today they are $8.00 a bushel. Hogs and cattle are also higher than they were a year ago. So when asked the question of whether or not commodity prices are inflating or deflating, you can find data available to support whichever side you want to argue.
More specifically, grain prices on a year-to- year comparison are influenced predominately by weather factors, which in turn obviously impact total available supply which changes prices which changes usage. Let's look at the longer-term picture and make comparisons not to just the last two years, but over the last ten years. If you exclude the bull market of 1996, the long- term trend of corn prices is down.
With that in mind, the bulls might be asking, particularly in the grain market, if the current downtrend in prices is a “fluke” and a correction in the long-term bull market? The bears and deflationists on the other hand, are looking at the bull market of 1995/96 and saying that those two years were the “fluke” and were nothing other than an aberration caused by weather problems throughout the world. Now commodity prices are back on a long-term deflationary trend they would argue.
Tough Medicine
This is not an argument that most farmers want to listen to and in particular want to believe. But the fact of the matter is that when you look at the long-term trend of grain prices, the only major bull markets have been caused by severe production problems. While long-term demand and consumption of grains has been increasing, increases in world wide production, with the exception of a few short-crop years has kept pace with the long-term demand. Therefore, while one can argue bullishly for the case of an expanding world market and expanding usage, the same statistics do not argue for bullish price trends to accompany that bullish demand.
How could we continue to deflate? Consider the fundamental forces that are taking place right now throughout the world and the United States:
1. The Freedom to Farm Act has changed the rules of the game. The lack of government reserves has removed the ceilings which means prices go higher during years of shortages such as occurred last year. But the new farm bill is also removing the floors and resulting in increased acreage. Producers are also forgetting that loan rates do not help support prices–but instead function as ceilings once the market goes under loan rate! Don't think for a minute that the loan rate in corn of $1.89 would ever stop this decline if prices will get that low.
2. By removing the ceilings in the grain market, which farmers greatly enjoyed last year, we have unfortunately in many ways, shot ourselves in the foot. Why? The laws of economics have not been repealed. By allowing commodity prices to run to such extreme high levels last year we've encouraged every other producer in the world to increase corn and oil-seed production. A trend which will not likely disappear soon. The short-term bull is going to create some long-term bearish fundamentals.
3. Technology in grain production is improving by leaps and bounds right in front of our eyes. Never since World War II have we seen such technological advances in row-crop production which includes specifically genetic engineering and site specific production. This will result in sharply increased yields over the coming years.
4. Increased world-wide trade through GATT and NAFTA will result in increased competition which in turn results in lower prices. Price swings will be higher to the upside such as last year but will also go lower on the downside.
The Bottom Line: While this is not a popular position to take, we believe that deflationary prices in the grain industry are firmly intact. The bull market of 1995/96 was a short-term supply driven phenomenon that will result in more bearish fundamentals long term. This does not mean that agricultural profitability will be declining sharply since higher yields at lower prices can in many cases, produce the same gross and/or net profit per acre as lower yields and high prices. But most importantly, for those die-hard bulls, the current long-term trends in commodity prices must to result in some “attitude adjustments.”
Where To From Here?
We recognize that you're getting very tired of hearing our bearish arguments in the grains. However, they've been working and the strategies that we've employed aggressively since March have paid off in extremely large dividends for those of you who have followed them. Now at this stage, the corn and soybean markets are acting like classic textbook examples of major bear markets. The bull spreads are falling apart. Attitudes are now moving from hope to fear. Grain elevators and bankers have been calling us at a more frequent pace in the last two weeks concerned about what producers in their areas are going to do with their old-crop corn and soybeans. Even more concerning is the fact that most reports we hear from grain elevators and banks from around the country show that no more than 10% of the new crop in their area has been priced.
Human nature has not changed. A year ago, probably four to five times that amount of new-crop grain was priced. Markets change but people don't. The majority still makes this year's decisions based upon what they did wrong or right last year.
The corn seasonality chart below should be right on target again for this year. Specifically, if the lows in the cash corn markets are not made early they are normally made late in the year. The highs for corn this year were established on the very first day of the marketing year, September 2 at $3.80 a bushel. Cash corn is now moving into new lows for the move and you will note that cash corn markets have never in history set their lowest prices of the year during the month of June. That would be a strong indication that the washout will occur in either July or August with the highest probability being August. This is a market that has not yet gone throughout the exhaustion leg to the downside and until we see panic selling, the bottom will not be confirmed. Also remember that it would be highly unusual for a grain market to make a V bottom at this time of year. Grain market bottoms are long and flat. The next bull market could be a ways off.
~June 27, 1997 Richard A. Brock & Associates, Inc.
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