Production Disappointments and Price Risk

Planting delays, drought, production disappointments, a few production surprises, strong soybean exports, slowing domestic soybean crush, disappointing corn exports, growing domestic corn demand for ethanol, tight supplies, mixed marketing signals, higher than expected soybean prices and disappointing corn prices-this season appears to have it all and then some! At this point, many Missouri producers are faced with disappointing production, considerable price risk, and difficult marketing decisions.

While dry weather has reduced corn yields in many areas, USDA's September crop production estimates still project the second largest corn crop ever! Strong demand is expected to use nearly all of the production, but ending supply will increase somewhat. Carryover is projected at 1.064 billion bushels at market year-end and, while this is less than the 1.329 billion bushels carryover forecast in July, it is an increase over last year's 1.009 billion bushels. World corn supplies continue to grow tighter, but we are not projected to "run out of corn." USDA estimates average U.S. cash prices to range from $2.10 to $2.50. Current Missouri cash prices are at or below the bottom of this price range, suggesting this is not a good time to sell!

"Store a large crop!" That is a rule-of-thumb often quoted by market analysts. Since this is expected to be the 2nd largest corn crop ever, it is a large crop. Large crops usually produce a glut of grain deliveries at harvest time pressuring prices and basis weakens-a combination often producing very low harvest time prices. Corn prices declined twenty-cents or more following the USDA reports, suggesting prices are headed toward a "harvest low." However, relatively strong domestic demand expectations, tight world supplies and the possibility for lower final production numbers leave open the potential for price recovery following harvest. The March '04 corn futures contract is offering a premium or "carry" of about 8-cents above the December '03 contract. This represents a futures market offer of 8-cents to store corn into 2004, which would about cover the cost of on-farm storage of corn. Typical post-harvest basis strength would add to potential storage returns. Market carry, along with the potential for basis strength, appear to be market signals to store corn.

Will a short soybean crop get smaller? "Slashed" is the word market analysts used to describe USDA's cuts in estimated soybean production. The 36.4 bpa yield and estimated production of 2.643 billion bushels were well below pre-report trade expectations. This production cut required a sizeable 250 million bushel cut in projected use compared to usage this past year. Carryover supplies are expected to remain tight at only 135 million bushels. USDA price estimates increased 65-cents from the previous month to a range of $5.25 to $6.15.

While these estimated production cuts were large, many believe the final numbers will be even lower. Crop conditions continued to deteriorate after September 1st and early harvest yields are disappointing with fewer pods and small seeds. In addition, new crop exports sales are strong and prices may have to go higher to ration use-especially if actual production is lower.

"Never store a short crop!" That's the market rule-of-thumb referring to a short crop situation. Short crop prices tend to run up sharply to ration demand and may peak at or near harvest time. Once demand has been slowed, along with anticipation of large production next year in response to the high prices, the tendency is for prices to begin an extended period of decline and storage does not pay. Soybean prices are currently well into the upper one-half of USDA's projected price range. If production prospects continue to decline, prices may move still higher in the coming weeks. However, these prices are encouraging South American production increases, which will come to market next spring. Anticipation of South American production may limit price gain potential and begin the price decline as their crop progresses toward harvest.

Mixed market signals do not suggest storage returns for soybeans. January '04 soybeans only offer about 3-cents carry over the November '03 contract-not nearly enough to cover storage costs. The March '04 soybean futures contracts represent an inverted market offering a negative carry of about 1-cent or a penalty for storage! New crop cash bids do suggest the potential for some basis gain following harvest. It appears that the best soybean marketing opportunities could occur before the end of 2003. This suggests avoiding long-term storage and taking advantage of sharp price up moves during the fall or early winter months if crop size continues to decline.

Corn Price Risk for Ethanol Production and Other Value Added Uses.

While producer-members of ethanol plants probably desire higher corn prices, it is a "two-edged sword." Corn makes up more than 60% of the cost of producing ethanol in a dry-mill plant. USDA's projected cash corn prices range from $2.10 to $2.50. Prices at the low end of the range suggest good returns on investment for ethanol production. New crop prices at many Missouri locations are even lower with some prices well under $2.00-suggesting very good ethanol production returns. However, corn prices at the upper end of USDA's projected price range would result in very limited returns for ethanol production.

Several factors could produce higher corn prices for Missouri ethanol plants. Low yields in Western and Northern Missouri will reduce corn supplies in those areas and may impact prices through stronger basis. Current cash bids reflect typical average basis levels going into harvest. However, at some Northwest Missouri locations current new crop bids are beginning to reflect a stronger basis than new crop bids offered earlier in the summer, providing a hint of basis strengthening and cash demand for reduced local supplies.

Corn demand is relatively strong and USDA projects most of the expected 2nd largest crop to be consumed during the market year. Exports remain disappointing, especially since world corn supplies continue to grow tighter. However, any slowing of Chinese export competition or increases in export demand could increase U.S. exports and prices significantly.

Another concern may be 2004 production, especially in Missouri. Soybean and wheat prices are currently more favorable than corn prices. Will wheat and soybean acreage increase in 2004 at the expense of corn acres? Wheat harvested in mid-summer brings in needed cash more quickly following a short crop year. Soybean production expenses are lower and are easier to "cash flow" when funds are limited following a short crop. The potential for fewer corn acres plus any weather concerns could create a scenario for significantly higher prices next year with tight world supplies and U.S. carryover only somewhat above 1-billion bushels.

These factors suggest that current corn prices may be offering buying opportunities. Prices at or below USDA's projected price range are certainly profitable and attractive for ethanol production. Lower final corn production numbers, strong demand, improved exports and the need to maintain or increase production in 2004 suggests the potential for higher corn prices. Producer investors in ethanol plants and other value added corn uses should recognize the need to manage these price risks that could seriously impact what now appears to be favorable investment returns.