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PRUDENTIAL SECURITIES, INC.
One New York Plaza, New York, New York
(October 27, 1997) WHEAT: The wheat market does not share the corn market's excitement about El Nino for several reasons. First, the strongest correlation for crop problems linked to El Nino is with the Australian wheat crop, and recent private and government production estimates have risen dramatically from earlier predictions. Early in the season, some estimates were as low as 12.0-13.0 million tonnes, which would have been down 4-7 million tonnes from normal; we were anticipating the crop could be as low as 14.0 million tonnes. Instead, the USDA has raised its estimate from a low of 16.0 million tonnes to the current figure of 17.0 million tonnes. Other industry analysts have recently plugged in a figure of 18.0 million tonnes and have an upward bias. These revisions reflect the September rains that revived the wheat crop and carried it forward into the reproductive stages during October. There is no dispute that the current El Nino cut into Australian wheat production potential. But, the expected shortfall is unlikely to even approach the disasters of the past that have included crop losses of more than 50% versus the previous year.
Also, the El Nino is helping Argentine winter wheat prospects, which have improved dramatically over the last 30 days. Moisture has picked up significantly, aiding the developing crop as it progresses through the jointing stage. Currently, the Argentine crop is about a week to 10 days later than normal and is in the critical stages of heading to early filling. Expect to see normal to better-than-normal yields. However, there were some potential acreage reductions in Cordoba and Santa Fe due to dry conditions in the late fall and winter months. Overall, rains have been very timely and corresponded well with critical stages.
Second, the world supply/demand balance is far from tight. The USDA is projecting record production of nearly 601 million tonnes, up from the previous record of 588 million set in 1990. Even though demand is projected to be 20 million tonnes higher than 1990 at a record 582 million tonnes, ending stocks continue to grow and are projected to reach 127 million tonnes. This is the largest carryover since 1993, when ending stocks reached 143 million. Similarly, the stocks-to-use ratio is expected to grow to 21.9% from 18.7% last year and the largest since 1993 when it was 25.3%. (In comparison, 1997/98 world corn stocks-to-use is projected at 10.8%, thus the corn market is more than twice as tight as the wheat market.) Overall, the world wheat market is very comfortable with 2.6 months of ending stocks. This is hardly a price-friendly scenario.
Third, the U.S. wheat balance sheet is bearish for prices because it is even more comfortable than the world supply/demand picture, even with a tightening in the October report versus the month-earlier estimates. The USDA boosted production by 20 million bushels, which raised supplies to 3,065 million, but a 50-million-bushel uptick in feed demand partly offset a 25-million- bushel decrease in exports. The net result was a 5-million-bushel drop in ending stocks to 665 million, which caused the stocks-to- use ratio to decline to 27.7% from 28.2%.
Our fourth reason for the wheat market's indifference to the El Nino focuses on the likelihood that U.S. exports will have difficulty meeting the USDA's projection of 1,075 million bushels in 1997/98. This appears to be an ever-increasing possibility, given the recent upward revisions in estimates for Australian and Canadian production as well as the EU's ability to subsidize wheat when it is most advantageous to their own interests. Recent Export Sales reports continue to illustrate that the U.S. export program is off to a fair start at best, and the closer we get to southern hemisphere harvest, the dimmer the outlook becomes. We expect all of these factors to translate into greater carryout that will weigh on prices longer term. Finally, winter wheat prospects look very good as the weather has cooperated very nicely with both planting and emergence. The rating index indicates that the crop is likely establishing a good stand prior to dormancy, which will bode well in the spring when dormancy breaks.
On a bullish note, Chinese wheat areas suffered through a very dry summer that has most likely prevented water reservoirs from replenishing. This implies that irrigation supplies have not recharged very much, thus there probably is not enough moisture for reestablishment of the crop in the North China Plain. Concern exists because irrigation supplies normally are used to some degree over winter and into the spring to aid the developing crop because the rainy season does not start until May or June, which is past the critical developmental stages. The question yet to be answered is: Where will the needed water come from? At this point, Chinese wheat production is a wild card.
Considering all the fundamental factors, the U.S. and world wheat picture looks a lot less tight than that for the U.S. or world corn market. Eventually, prices should reflect this situation, However, between now and then, the hype is definitely with the bulls as the current El Nino is digested and market decides the validity of the potential for adverse weather problems.
Tom Levis
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