Pork Wrap October 22
This week it was the bellies’ turn to pressure the cutout lower.
The chart to the right indicates that after several weeks of being the
bad guy, hams actually added a small amount to the cutout. But
that wasn’t nearly enough to offset the pressure that came from
the belly primal. On a weekly average basis, the cutout dropped
almost $6 this week. Cash hogs also moved lower, but not as
much as the cutout. WCB negotiated hogs were only down $1.40
this week. The LHI lost a little over $3.50, reflecting the drop in the
cutout in addition to the smaller decline in cash hog prices. With
pork prices down more than hog prices, packer margins shrank.
I estimate packer margins at $26/head, down about $5 from last
week. The pork drop credit is also declining as kills increase
seasonally. Margins are very close to the five-year average for
this time of year, but with demand still very strong, I expected them
to be larger. Perhaps the smaller supply of hogs this fall is
working to counter the margin enhancement that should arise from
stronger-than-normal demand. Packers posted a 2.6 million head
kill this week, slightly smaller than last week. The difference was
a little bit smaller Saturday kill this week. However, that kill was
nearly dead on with what the March/May pig crop implied. The bar
chart to the right shows that the kill in recent weeks has been a lot
closer to the pig crop than it was earlier in the quarter. That gives
me some confidence that I’ve likely got the projected kills right
over the next few weeks. We are not far away from the peak kill
which should total around 2.68 million head near the end of
November. Carcass weights are rising seasonally now and that is
also adding to production. Unfortunately, the export market
doesn’t appear to be soaking up as much product as it has in
recent years.
Still, strong domestic demand can cover for a lot of sins and
demand is definitely strong in an historical context. I’m looking for
the Q4 cutout demand index to come in around 1.12, which is
below the 1.17 average of the first three quarters in 2021, but the
second highest Q4 demand ever recorded. The combined margin
chart tells us that demand has resumed its near-term decline after
a brief, but large, head fake a couple of weeks ago. Clearly, we
have seen belly demand erode over the last 10 days or so, but I
also think we are seeing some slippage in demand for the retail
items. Hams may be close to a bottom now. It is hard to imagine
that 23/27 hams below $48 won’t be seen as a great value by
buyers.
Of course, many of the buyers that use bone-in hams process
them further and so perhaps labor is constraining their demand
for hams this fall. The cutout has now printed below $100 four
days in a row and it looks like it has further downside potential
as kills expand further in the next few weeks and belly demand
stays on the defensive. I’m forecasting the cutout to move into
the mid $80s sometime around Thanksgiving. I think the risk is
that it may go there sooner. The lack of Chinese interest in US
pork is one of the more disappointing features of the market this
fall. The weekly export volumes to China continue to decline
and their forward book doesn’t indicate that they plan on
ramping up imports from the US anytime soon.
In addition, retailers have jammed pork prices to all-time highs
after several months of super-high wholesale pricing. That is
likely to cool consumer interest in pork and it is coming right
when the biggest production of the year occurs. Pork has very
inelastic demand, meaning that relatively small changes in the
quantity available can result in big changes in price. That is
partly why I’m concerned that a mid $80s cutout could come
sooner than most expect. Hog producers have enjoyed great
margins for most of 2021 (chart to the right), but the recent decline
in cash hog prices has producer margins on the verge of going
red. The last two months of 2021 are likely to see producer
losses of more than $20/head. Lean hog and pork cutout
futures were lower on the week, with the biggest losses coming
in the front end of the curve.
Traders were quick to adjust their price expectations as the
cutout moved below $100 and the bellies made their downward
trajectory clear. Dec hogs lost $5 on the week and are now
about $9.50 under the LHI. With seven weeks to go until
expiration, it is reasonable to expect the Dec contract to remain
well below the index as long as the cutout and index are
trending lower. Next week, watch those bellies for further
softening and keep an eye on the hams in case low prices
should start to attract some buying interest.
