Pork Wraps

Cash hog prices continued higher this week as the WCB negotiated
market was up $5.80 on a weekly average basis and the National
negotiated market gained a little over $8. Those gains were enough to
push producer margins into positive territory after over three months of
being deep underwater. Packers could afford to pay those high hog
prices because the prices they were receiving for pork increased. The
cutout gained $7.18 this week to average $109.53. Triple digit cutouts in
February are pretty rare and it’s even rarer to see triple digit hog prices,
but that may be where we are headed very soon. The LHI is currently
poised to reach $97 early next week and expected to average over $101
by the time next week is done. Packer margins remain very healthy, with
this week’s margin estimated to be over $31 per head. As a result,
packers are eager to push the kills higher and not afraid to pay up for hogs
if they have to. This week’s slaughter clocked in at 2.51 million head, just
a hair smaller than last week, but still about 90k stronger than what the
Jun/Aug pig crop implied.

Next week is the end of the Dec/Feb quarter and it looks like the industry
will have over-killed USDA’s estimate of the prior pig crop by about 500k.
I guess it is a good thing that the hog supply was larger than advertised
over the past few weeks or else price levels likely would have surpassed
the eye-popping levels that we are currently experiencing. Barrow and gilt
carcass weights declined another pound this week and seem to be
behaving in normal seasonal fashion. Both kills and carcass weights
both should plateau for the next several weeks and thus hold pork
production relatively steady around 535 million pounds per week. Toward
the end of March, both kills and carcass weights should start to move
seasonally lower and by the time we get to mid-May pork production will
likely only be about 500 million pounds per week. That would be about
3.3% below last year’s production level, but keep in mind that exports
aren’t likely to be nearly as strong as what we saw last year, so that will
help to offset some of the YOY production decline. When we get into the
summer months, the industry will be slaughtering the Dec/Feb pig crop,
which USDA hasn’t reported yet, but my estimate is that it will be about
1% larger than last year.

In all, the supply side of the market looks a bit tighter than last year, but
not excessively tight, particularly as we move deeper into spring and early
summer. It is the demand side that is causing most of the headaches
right now. I estimate that the cutout demand index for January was 1.09,
up about half a percent from last year and the February demand index is
close to 1.2, up 5.2% from last year. Just to put that 1.2 February demand
index into perspective, prior to 2021 the highest February demand index
on record was 1.07 in 2017. So, this is by far the strongest February
demand environment ever seen. That is why the cutout is brushing up
against 110. f course that begs the question, “Why now? Why is demand
suddenly so strong for pork?” I suspect that it is related to consumers
climbing back down the protein ladder and trading out of beef and into
pork as their pandemic savings dwindle and high prices on everything
else in the economy gobble up any extra disposable income they might
have

If that theory is correct, then this demand strength isn’t likely to last a
long time since consumers will eventually move down from pork to
poultry. The one caveat to that is that the poultry sector is nervously
watching the spread of avian influenza right now and that has the
potential to disrupt things for all animal proteins. If the bird flu spreads
widely to commercial broiler operations, then massive depopulations
will be necessary and that will seriously limit broiler production, raising
prices and thus supporting pork demand. On the other hand, if it
doesn’t spread widely but it does cause our trading partners to ban US
poultry, then there is the risk that poultry prices plummet in the US as
we try to clear a lot more chicken through domestic channels that would
normally have gone overseas. That would hurt pork demand. And
finally, if a “bird flu epidemic” starts to be reported in the popular press it
can depress consumer demand for poultry and thus boost beef and
pork demand. So, there are a lot of different angles to the avian
influenza story that we need to keep an eye on in the coming weeks.
This week it was big gains in both the bellies and hams that drove the
cutout higher, with only a small amount of help from the retail primals.

That tells me that the demand surge is coming primarily from the
processing sector. Belly slicers are probably ramping up production in
order to fill increasing orders from foodservice as the pandemic wanes.
Americans will likely travel in record numbers this spring and summer
after two years of not being able to travel safely. That should drive
consumption through the foodservice channel higher and a lot of bacon
is used in foodservice applications. With the hams, I think we may be
seeing signs that more boning labor is becoming available because the
amount of hams sold bone-in over the last few weeks seems to be
down from where it was back in Q4. When processors are able to
debone more hams, thus adding value to them, the price level for the
ham primal should be generally higher. We should watch trimmings
prices closely because as more deboning occurs, that should increase
trim volumes and thus drive prices lower. So far that hasn’t happened
to a large degree. 42s have been trending solidly higher since mid-December and likewise for the 72s, except for a sharp drop two weeks
ago.

This week, the 72s regained their footing and added about $3/cwt.
Futures traders have been busy buying the futures curve with both
hands. The Apr contract has gone from about $86 in mid-January to
over $109 today. That’s $23 gain in a month is astounding. Shorting
this market has been like standing in front of a runaway train. Those
that have tried it probably don’t want to do it again anytime soon. The
mis-pricing chart shows just how inflated the futures curve is now
relative to my read of the fundamentals. Once the demand side of the
market cools down however, a good bit of the recent strength in the
curve is likely to get removed. Next week, watch the bellies and hams,
those have been the primary price drivers. Keep an eye out for news
on avian influenza because that has the potential to become a big
market disruptor.