Bull Market Looms Large In 2005

by Dave Kurzawski
When the opening bell rang on the first day of trading in January 2004, the Class III futures market had already come to terms with the first-ever case of mad-cow disease in the United States. Prices fell but returned to average levels in January once mad-cow hysteria faded with little negative impact on demand for dairy products.
Whole-herd buyout commitments of the National Milk Producers Federation’s Cooperatives Working Together program, the rising price of feed, Posilac reduction by Monsanto and scorching heat that plagued western states in August 2003 were reasonable concerns.  From a supply standpoint, 2004 was already shaping up to be bullish for dairy prices.
Class III futures traders tend to focus on the supply side. Lack of good demand information is one reason. Nevertheless, commercial disappearance numbers rose and demand strengthened in the first quarter of 2004 as the overall U.S. economy hummed along a pattern of steady growth and Americans took to a high-protein/reduced carbohydrate diet.
Fear of supply/demand imbalances permeated the industry in the first quarter and cheese prices began their record climb in March.  The average price for Chicago Mercantile Exchange block cheese finished February slightly above average at $1.39/pound. By the end of March, the price had risen to over $1.81.  
We have been at similar price levels before and typically move lower rapidly.  In this case, however, the price turned north and continued to the infamous $2 level. The spike in prices was abnormal given the seasonality of production/price cycles for milk.  Then butter surged to more than $2 per pound, whey topped out at 30 cents and NFDM hit 85.5 cents.
In June, the price of milk was in the throes of a considerable price correction as the supply/demand situation no longer appeared to be in the dire straits that produce $20/cwt milk. The remaining months of 2004 found a CME block-cheese price in the mid-dollar range as the market reconciled brawny demand with a lackluster growth in supply. By November, however, prices surged again as demand outpaced supply heading into the holidays. Block cheese price rallied to $1.90 with butter climbing past $2. The bull has not yet backed off.
As the U.S. economy grows, we should expect a year of above-average dairy prices. As of this writing, January to December 2005 Class III futures are at a $13.72 average, nearly $2 above the five-year average.  Nevertheless, expect production to increase as milk-per-cow numbers begin to recover. Early forecasts call for production to grow by 1.5 to 2 percent on a monthly average basis. While that seems bearish, demand is expected to grow 2 to 2.5 percent in 2005.  
Dry whey and NFDM prices have begun to move to the upside as well. Whey surpassed 24 cents per pound during the last week of 2004, but look for whey prices to fall to 21 to 22 cents per pound on an average basis during 2005. NFDM, which ended 2004 at 88 cents per pound, is already supported at 89 cents on the CME. If milk production should slack this year, NFDM could jump 2 to 4 cents per pound during 2005.
The U.S. dairy markets should remain in a bull market during 2005.  But heed the lesson of 2004:  Seasonal price cycles the dairy industry has grown accustomed to may have forever changed.  
Dave Kurzawski is an account executive with Chicago-based commodities brokerage Downes-O’Neill LLC.