Beef Wraps

Cattle feeders managed to press a little more money out of the
packers this week as average live steer prices were about $0.75
higher to $152.70/cwt. Packers did take on a large volume at that
price and should now be well positioned to run a big kill next week.
The cutouts were steady to slightly higher, with the Choice losing
$0.46 on a weekly average basis, while the Select was up $2.80/cwt.
That caused the Choice-Select spread to narrow by almost $3—
something that is very unusual for this time of year. Normally in early
November the Choice middle meats are racing higher and that causes
the Choice-Select spread to widen, not narrow. However, it is more
accurate to say that this year middle meat prices are crawling higher,
not racing. This has to be creating some concerns for packers since
the cattle that they will be killing next week cost about $7/cwt. more
than what they were paying a month ago. Packer margins were
mostly unchanged this week at $57/head, so they aren’t getting the
type of margin gains that are typical at this time of year either.

To be sure, there is still time for packer’s fortunes to turn around, and
there is often a decent rally in middle meat prices during early
December as buyers finalize their Christmas purchases. But I’m not
very hopeful for that this year. It looks to me like the market may be
very close to topping the cutouts in the next couple of weeks. The
middles may still gain, but the end meats and grinds are starting to
slip lower and that could end up negating any benefits that middles
bring. The attached chart indicates that losses in the round, chuck
and brisket this week outweighed the gains in the rib and loin primals.
I’m afraid that story might repeat again over the next few weeks. Let’s
imagine for a moment that the cutouts can’t add much more value
than they have right now. What will happen to cattle prices and thus
packer margins? I really don’t think that cattle feeders are going to
show a lot of generosity to the packers and sell their cattle cheaper
just because beef prices are not rising.

I think packers would need to force the issue by cutting way back on
the kill for a few weeks to help improve their position in the
psychological chess match that is the cash cattle market. Will they do
that? So far they haven’t shown much willingness. There is just too
much forward contracted beef that needs to be delivered. As a result,
I’m not very bullish on packer margins. In fact, as I revised the
fundamental forecasts this week, I began plugging in negative packer
margins for late December and through January. If I didn’t do that,
then I’d have to have cash cattle prices in the $130s and no one is
going to believe that will happen given that we are sitting very near
$153 today. In fact, futures traders seem to believe that there won’t
be any concession in cash cattle prices between now and the end of
February. The demand side of the beef market feels very soft at
present. The combined margin has turned lower once again after
head-faking higher a couple of weeks ago. Trim markets are falling
fast and I’ve always taken that as a bearish sign. 

I’m a little concerned that the combined margin might
be on its way to -$100/head, which is something that has only
happened a couple of times in the past five years. Inflation is still a
huge problem in the macroeconomy and there is no indication that
the Fed will stop raising interest rates anytime soon. The October
CPI, which was released on Thursday, showed a very slight easing in
inflation and that was enough to send the DJIA soaring over 1000
points in a single day. That should be good for consumer confidence
if it lasts, but the market could take that back in a heartbeat. The
University of Michigan Consumer Confidence Index released today
was down a little over five points from the previous month and very
near all-time lows. That doesn’t seem like the type of environment
that will generate robust beef demand. On the supply side, this
week’s steer and heifer slaughter clocked in at 518k, up 2k from last
week and still above the level that our flow model projects.

I’m looking for packers to do an even bigger kill next week, perhaps
as high as 530k, as they try and get ahead of the short kill that will
come in the following week. Next week USDA will provide the results
of their Cattle on Feed survey for October and I’m looking for
feedyard placements to be down almost 7% from last year. If that
prediction comes true, then it will create a situation where feedyard
inventories as of Nov 1 are down about 2.3% YOY. A couple more
months of YOY placement declines and we could have feedyard
inventories down 5-6% by February or March. Packers had better
keep their fingers crossed that there is no serious winter weather that
hinders cattle performance this year. Numbers are already going to
be tighter than what they are accustomed to in Q1, so any adverse
weather would just make the situation worse and could cause them
to have to pay up for cattle at a time of year when beef demand is
likely to be very soft.

Steer carcass weights rose 3 pounds this week to 928 pounds and
are now 8 pounds higher than last year. The DTDS weights are
working higher and that normally signals a loss of currentness by
feedyards, but the DTDS is still at relatively low levels, so I don’t think
that weights are going to have much of a detrimental impact on cash
cattle prices in the near term. Weights will probably top sometime in
the next couple of weeks at just over 930 pounds. For now, the
supply side of the market appears well behaved and sufficient for the
level of demand. However, market-ready cattle supplies are likely to
shrink as we move into Q1, so things could get interesting, especially
if Old Man Winter turns angry. Next week, watch for the middle
meats to move a bit higher, but that could be offset by further
weakness in the end meats. Packers will be purchasing for cattle for
a short-kill the following week and they got a lot bought this week, so
they might not need to be very active in the cash market. Futures
could be vulnerable as the bulls get tired of waiting for the holiday
season rally to start.