Pork Wraps

It was steady-as-she goes again this week in the pork complex. The
cutout averaged a mere $0.20/cwt higher than last week and the NDD
cash hog market gained $0.29/cwt. That is about as boring as it gets for
hogs and pork. The one little piece of excitement was a futures rally on
Tuesday and Wednesday in response to a brief upward jiggle in the
negotiated markets and cutout. Bellies also tried to provide some
excitement with a significantly higher quote on Thursday, but it turns out
that was a false flag and the belly primal finished the week lower, losing
about $3 on a weekly average basis. Given that almost nothing is moving
significantly in either the hog or pork markets, futures traders thought that it
might be prudent to remove a little more of the premium in the summer
contracts and those lost from $2-3 on the week. That has now pushed the
Jun and Jul contracts below the fundamental forecast, but Aug still looks
several dollars too rich. There is no doubt that there has been a reset of
expectations in the hog and pork complex.

No longer do traders believe that disease issues are going to make the
hog supply so tight this summer that packers will be paying $130 for any
hogs they can find. Instead, it looks like pork availability will be larger this
summer than last due to drastically smaller exports. USDA reported
March exports down 25% this week and that brought the Q1 export total to
20% below last year. I’m forecasting Q2 to be down about 14%. By the
time we get to Q3, we could see some small YOY gains in exports, but that
is only because we will have reached the point where exports really
dropped off last year. Similar to beef, pork imports were up sharply—46%
YOY. So with exports way down and imports way up, it is easy to see
how there could be more pork available in the domestic market this
summer than last year. Another concern that is beginning to creep into
the picture is that it is starting to look like USDA might have underestimated the Sep/Nov pig crop which is now being slaughtered. This
week’s kill came in at 2.42 million head, which was about 100k more than
what the pig crop suggested. Further, it looks like packers could be
planning a similar sized kill next week and if that is the case then the
cumulative over-kill for the March/May quarter would be about 225k.

That’s not a huge miss, but it does make me wonder if we will start to see
consistently bigger-than-expected kills heading into summer. To put things
in perspective, this week’s kill was essentially the same size as the kill in
late March/early April. The normal seasonal pattern would be for early
May kills to be smaller than those. Perhaps packers will revise next
week’s kill downward and we could quickly get back on track relative to the
pig crop, but for now we are seeing production a little larger than expected.
This week I’ve included a chart on the sow kill, which is forecast based on
the size of the breeding herd at the start of the quarter. Here, the positive
and negative bars exactly cancel each other which means the sow kill this
quarter has been almost perfectly aligned with the breeding herd. We are
not liquidating sows or retaining them at this point. Hog weights have not
yet started to decline seasonally, as USDA reported barrow and gilt
weights up one pound to 217 this week. So, the bottom line is that pork
availability next week will be every bit as large as it was this week and thus
we are not yet seeing the normal seasonal tendency toward smaller
production.

Will the cutout be able to hold its ground without smaller kills? Maybe
not. I’m of the opinion that pork demand is slowly fading as consumers
retreat back down the protein ladder in the face of economic headwinds,
so I am counting on smaller production to give the cutout a little lift
heading into summer. That smaller production may be delayed a
couple of weeks and that could create a bit of pressure on the
cutout, but eventually I think production will decline and price levels
will rise modestly. Right now, the fundamental forecast calls for the
cutout to top around $113 in mid-June. A decent recovery in the bellies
could quickly get us there. I’m calling bellies slightly higher next week,
but bigger gains will probably come around Memorial Day. I don’t think
that we need to fear another big downdraft in the bellies. That said, it
looks to me like the hams could be nearing a top. This week’s
average ham primal was almost dead on with last year, and that was
pretty rich ham pricing.

At this time of year, ham is often purchased for processing into lunch
meat products in anticipation of kids being out of school for summer. I
also get the feeling that Mexico has been a big buyer of hams over the
past few weeks and wonder if they will continue that at current price
levels. It is pretty clear from the pricing data that packers are doing more
ham boning and more product is leaving in boneless form. That alone has
a tendency to lift the ham primal since those boneless products tend to
generate a higher primal value than the bone-in product does under
USDA’s current conversion formula. I’m calling the hams more
sideways to slightly lower in the next few weeks, which means that if
the bellies can generate a reasonable rally, we should see the cutout
improve. On the bear side of the ledger, I will note that trim markets
seem to have stalled recently and may not be able to muster much
additional upside. Sow prices are also declining rapidly (down $6 this
week) and that can sometimes be an ominous sign for the trim markets
because sausage makers will substitute trim for sow meat when sow
prices are very high. I calculate this week’s packer margin at about $7/
head, which is up a little from last week and pretty typical for this time of
year.

I’m looking for some further erosion packer margins as we move into
summer, but not expecting them to go negative for any length of time.
With the hog supply looking a little larger than expected, I think the LHI
could continue to drift a little lower and so we might see May expiration
very close to $100. If you recall, April expired at $99.98. It is pretty
unusual not to see any gain in the index between April and May
expirations and I take that as a sign that demand has eroded somewhat in
recent weeks. Right now, I’m looking for Jun expiration around $108, but
it could be several dollars lower than that depending on how
demand plays out. June expiring below April or May would be super
unusual, but I think the odds of that happening are better this year than
any year prior (excluding 2020, of course). Next week, watch the
bellies for signs that the bottom is in and the hams for topping action.
The hog and pork complex seems a bit boring right now, but when that
happens it is usually just the calm before a coming storm.