Prepared by Prudential Securities, Inc.

FCOJ prices have weakened steadily since August on prospects for bumper crops in the United States and Brazil in 1997/98. On August 14, a private consultant's forecast of a 1997/98 Florida crop of 253 million boxes triggered a violent price response, with January futures crashing more than 12 cents per pound in three days to the 72.0- cent level. Prices began inching higher in late September, due partly to a technical correction but also because some traders were positioning themselves for the possibility of a bullish USDA forecast on October 10. To the bulls' dismay, the USDA projected the 1997/98 Florida orange crop at 254 million boxes, prompting another futures crash that pushed nearby prices to 65.0 cents, the market's lowest level since 1977. Futures trading volume for October 10 was a record 18,126 contracts, surpassing the previous record of 14,106 lots set on December 12, 1995.

As we go to press, a November price rally has run out of steam and futures prices appear set to head southward again. (In our view, the rally was technically based, with lower Florida temperatures lending "psychological" support.) Because 1997/98 production forecasts for Florida and Brazil are bearish, we anticipate that in the absence of fresh bullish developments FCOJ futures prices are likely to remain under downside pressure over the long term.

United States

The USDA forecast record U.S. orange production of 330.6 million boxes in its October 10 report. The figure was up 11.5% from the previous season's production and an astonishing 25.3% above output in 1995/96. Orange production was forecast to be up in all states except Arizona, which was unchanged at 1 million boxes. Florida is expected to account for 76.8% of total U.S. output in 1997/98, a percentage that has held steady for several years.

Florida

The USDA's initial forecast of 1997/98 Florida orange production was a record-setting 254 million boxes (exclusive of Temples), up 12.3% from the previous all-time high set in 1996/97 and about 25% above 1995/96 production. Early and mid-season fruit are expected to account for 146 million boxes (up 8.8% versus 1996/97) while Valencias should contribute 108 million boxes (17.4% above the year-ago level). Major factors explaining the longer-range production increase include increased tree density and the relatively youthful profile of the tree population. The USDA's survey found heavy tree bloom in most Florida growing areas during March and April, with the exception of lower Western Florida citrus areas that were affected by the January freeze.

A March 1997 study of long-term production trends by the Florida Department of Citrus found that a combination of record tree numbers, favorable age composition of the tree population and increased tree density would lead to "substantially" higher orange output over the next several seasons. (This study was discussed in our June 3 Quarterly Outlook.) Utilizing two statistical approaches (one tree-based, the other involving tree acreage), the department projected 1997/98 production at 245.2 million boxes, or 3.5% less than the USDA's October forecast. (It should be noted that these two numbers are not directly comparable because state researchers were projecting potential output, while the USDA's forecast relates to utilized production.)

For 1998/99, the Florida Department of Citrus is projecting the state's output at 257.2 million boxes, or almost 5% above its year-ago figure; production for 1999/2000 is projected to climb another 3.4%, to 266 million boxes. Suffice it to say that, in the absence of weather-induced production problems, the preliminary outlook is for Florida orange production to expand over the next few seasons.

Florida FCOJ yields for Valencias and all oranges have been trending higher for most of the last two decades, with major interruptions occurring during freeze years. The USDA's initial forecast of 1997/98 all-orange yield is 1.55 gallons per box (42 degrees Brix concentrate), which compares with 1.57 gallons for 1996/97 and the three-year average of 1.53 gallons. Initial 1997/98 yield projections for individual orange categories will be released in the USDA's January 1998 survey.

Cumulative 1996/97 Florida FCOJ movement has trailed the pace of the two previous seasons since the beginning of the year, but is well ahead of movement seen in 1993/94. As of November 1, cumulative FCOJ movement had reached 245.9 million gallons, nominally below the year-ago level.

Figure 4 shows seasonal trends in FCOJ supplies held by members of the Florida Citrus Processors Association. As one might expect, inventories build up rapidly during the first half of the season, reflecting the pace of harvesting and processing. Inventories tend to peak around the middle of the season, when harvesting and processing come to an end; thereafter FCOJ movement exceeds any late inflows, causing supplies to fall steadily for the rest of the season. This year's inventory reached a peak of 168 million gallons at the end of June, which was roughly 15% above the inventory level reported a year earlier. As of November 1, inventory was reported at 82 million gallons versus the year-ago level of 49.7 million.

End-September U.S. FCOJ cold storage stocks were reported at 1,290 million pounds, up from 910 million a year ago. Stocks have been trending upward for the period, and particularly since the mid-1980s, with stock drawdowns in recent years being relatively minor. Stocks reached their all-time high of 2.18 billion pounds in May.

Stocks tend to expand rapidly from November through January, which is the early new-season harvesting period. The pace of stock accumulation begins to slow in February, but picks up again in April and May when Valencia harvesting is in full swing. With the subsequent harvesting slowdown, stocks fall toward a seasonal low, generally made between August and October.

Over the last 20 years, per capita intake of U.S. orange juice consumption reached a peak of 5.6 gallons in 1982/83. Consumption then gradually eroded to a low of 4.3 gallons in the early 1990s. Since then, consumption has risen steadily to 5.4 gallons in 1996/97, its second-best level for the 20-year period.

The large increase in orange deliveries to processors (with Sao Paulo accounting for virtually the entire increase) is expected to boost Brazil's 1997/98 FCOJ output to 1.33 million tonnes (65 degrees Brix), up 15.6% from the 1996/97 level. Roughly 97.4% of the country's total production is expected to originate in Sao Paulo.

Brazil's consumption of FCOJ is a negligible 18,000 tonnes, leaving most of the production available for export. Exports in 1997/98 are forecast at 1.22 million tonnes versus shipments of 1.18 million the previous marketing year.

The state's tree population is expected to reach a record 180 million during the 1997/98 marketing year, up 4% from the previous year and equal to 83% of Brazil's bearing orange tree stock. (Sao Paulo's non-bearing trees are projected at 30 million in 1997/98 and constitute 88% of Brazil's non-bearing orange tree inventory.) The projected increase of 7 million trees since 1996/97 is the smallest annual increase since 1994/95. The tree population has expanded without interruption since 1985/86, with virtually all of the gains accounted for by "big" producers and processors.

Sao Paulo's 1997/98 orange production is forecast at 417 million 40.8-kilogram boxes, up 13.9% from the year-ago level (equating to a yield of about 2.32 boxes per tree). The increase reflects favorable growing conditions that aided fruit setting and maturation, and the expanding proportion of 7- to 12-year-old trees now entering their most productive period. The U.S. agricultural attache forecasts that 315 million boxes, or 75.5% of orange production, will be delivered to FCOJ processors in 1997/98. (This percentage is little changed from the previous year.)

The Sao Paulo Citrus Defense Fund (FUNDECITRUS) reported in September that roughly one-third of the state's orange trees appeared to be infected with Citrus Chlorosis Variegated (CVC), the most serious crop disease found in Brazil's orange areas. (Because symptoms of the disease do not show up for eight to 14 months, the proportion of affected trees could be higher.) As yet, there is no chemical spray available for combating the disease, which tends to strike younger trees. In order to fight the disease, growers have been advised to: (1) destroy plants under three years suspected of being affected; (2) eradicate insect pests responsible for spreading the disease; and (3) raise the level of crop care and management to ensure that no diseased planting material is used. Citing various local industry sources, the U.S. agricultural attache recently noted that CVC could exert "a major negative impact" on Sao Paulo's orange production within three to four years; other sources, however, appear to feel that improved farming practices already have brought the situation under control. The attache's report indicated that an effective campaign against the disease might raise production costs by about 15%, which, while a problem for smaller growers, was viewed as quite manageable for capitalized producers.

No production forecast for the 1998/99 marketing year has been released so far. However, in his November report, the U.S. agricultural attache noted that several factors pointed to a possible drop in the state's orange production versus 1997/98. First, adverse weather conditions have not only produced non-uniform tree flowering but also damaged fruit setting in some areas. Second, the downturn in the trees' biannual productivity cycle also is likely to undermine output. Finally, as noted in the previous section, the spread of CVC could hurt production.

Figure 10 tracks average monthly FCOJ futures and retail prices since January 1990 and shows that there generally is a very broad parallelism between the two price series, with futures price advances (as in late 1991, 1993 and late 1995) being followed (after a lag period) by rising retail prices. (The retail price released by the U.S. Bureau of Labor Statistics is for a 16-ounce can of FCOJ; we then convert this price series to solids per pound at 42 degrees Brix.) However, the futures price decline that began in 1996 and has taken the market to new lows has not been mirrored at the retail level. Indeed, average retail prices have held quite steady over the last few months, and are now slightly higher than they were at the beginning of 1996. It seems that the industry has concluded that reduced retail prices would be an unattractive marketing tool; there is no indication that this outlook is about to change.

Clearly defined seasonal moves in FCOJ futures occur only twice a year. Futures tend to trend upward during the first quarter of the year, reflecting either actual frost damage to Florida's orange groves or trader anticipation that winter weather could prove damaging to Florida's production prospects. Then, after trading sideways until the end of September or early October, the market declines through year-end. It seems likely that the fourth-quarter weakness is tied in with the new season's production forecast in the USDA's October report (historically the year's most important for the FCOJ market) and reflects a general discounting of the earlier, far more uncertain, new-crop production outlook.

The USDA's October forecast of Florida's 1997/98 orange production was a record 254 million boxes, about 12% above the year-ago level. According to the Florida Department of Citrus, new tree plantings, favorable age composition of the tree population and higher tree density all indicate that the state's orange production will continue to expand "substantially" over the next several seasons.

Weather conditions in Florida's citrus groves generally have been excellent this fall, and fruit maturity is ahead of last year's level. With the rapid approach of winter, frost-conscious FCOJ traders will be focusing on Florida temperature patterns, making this a "weather market" over the next few months. El Nino-induced weather anomalies signal increased rainfall for Florida this winter, but are also likely to lead to higher average temperatures. Thus, the El Nino phenomenon will reduce the likelihood of a Florida frost this winter.

Cumulative 1996/97 Florida FCOJ movement hit 245.9 million gallons as of November 1, continuing to trail the 1995/96 pace as it has the entire season.

As in the case of Florida, there is no indication of any slowdown in Sao Paulo's 1997/98 orange production. This Brazilian state is estimated to have a record 180 million orange trees in 1997/98, and output for the season has been projected at 400 million 40.8-kilogram boxes, up 9.3% versus the previous season's production level. Current indications are that the El Nino is a neutral factor for the state's orange production.

Ever-expanding production in Florida and Brazil are keeping us in the bearish camp over the longer-term. Assuming that Florida's groves see no frost-related damage, we see the 75.00-cent level, basis March futures, as the next downside target, with a possible longer-range objective in the 65.00- to 75.00-cent area.

December 4, 1997 Arthur Stevenson

Prudential Securities, Inc.

One New York Plaza, New York, New York

Consensus National Futures and Financial On Line Subscriber Index

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