Pricy Oil Could Squeeze Margins
by Dave Kurzawski
Buyers of
soybean oil would be wise to heed this warning: You’ve got new
competition — and those competitors are not making food,
they’re making fuel.
With the price of gas at the pump approaching the
mid-$3-per-gallon mark in many areas of the country, scientists and
entrepreneurs are working overtime to find a solution to our nation’s
budding energy crisis that doesn’t include owning an oilfield in the
Middle East.
Corn ethanol production has emerged as the current
leader of the “new fuel” revolution in the United States. Yet
just because advertising dollars have put corn ethanol on the map first,
doesn’t mean it’s the only alternative. Those who are in the
business of making the nation’s dairy food supply should be aware of
an alternative that’s going to begin quietly making noise: biodiesel.
Biodiesel is derived from soybean oil, a by product of
crushing soybeans into animal feed, and has been around for more than half
a century. In 1913, Dr. Rudolf Diesel, creator of the diesel engine, stated:
“The use of vegetable oils for engine fuels may seem insignificant
today. But such oils may become, in course of time, as important as
petroleum and the coal tar products of the present time.” Better late
than never, for Dr. Diesel’s sake. For you, however, soybean oil
prices over the course of the next few years will be volatile at best,
significantly higher at worst.
It takes approximately 7.5 pounds of soyoil to produce
one gallon of biodiesel. The United States is currently estimating 2006
soyoil production at 20 billion pounds, about 5 percent of which will go
toward our burgeoning biodiesel usage. Of that, forecasts are calling for a
2006 supply of 150 million gallons. While 150 million gallons is double
last year’s production and seemingly enough to quench our current
thirst, it’s only one side of the equation.
U.S. soybean oil demand for biodiesel could reach
roughly 1.0 billion pounds this year. That’s approximately 133
million gallons and demand is expected to grow exponentially. Such growth
could quickly overtake our current surplus supply situation. To meet the
new demand, however, the National Biodiesel Board, a non-profit industry
trade group, expects an additional 50 biodiesel plants to come on line
within the next two years bringing the number of U.S. operating biodiesel
plants to more than 100.
Nevertheless, as the U.S. dollar falls and energy and
commodity prices rise due to increases in demand at home and abroad, input
costs will tighten your bottom line. Prudent dairy food manufacturers
will seek ways to lock up prices well into the future and, while there is
more than one way to skin a cat, using soybean oil futures and options are
as viable as any.
The soybean oil futures contract comprises 60,000
pounds of soybean oil and trades eight months a year, two years into the
future. A 1-cent-per-pound price move in the soybean oil contract is
equivalent to $600 per contract. For example, a 5-cent move, from 25 cents
to 30 cents, is a $3,000 move for a 60,000-pound futures contract.
Recent soybean price rallies are not necessarily
supported by current fundamentals. On July 11 of this year, soybean oil
futures prices at the Chicago Board of Trade hit a two-year high of 27.60
cents per pound. The mid-summer jump in soybean oil prices, which was
inspired more by a simultaneous rally to over $75 in crude oil futures and
speculative money flow than it was by a true soybean oil supply/demand
imbalance, raises the $64,000 question: what happens to price when there is
rationing due to a legitimate supply/demand imbalance? Will prices spike to
30 cents per pound?
If your company’s bottom line is sensitive to
the price of soybean oil, examining its future price should be as much on
your radar as the future price of butter.
Southwest dairy facts
New Mexico residents not directly involved in the
state’s growing dairy industry may not realize the dairy business is
now the leading agricultural activity in the state and a top contributor to
the national milk market. In fact, New Mexico is the seventh-largest
milk-producing state, providing 7.1 (4 percent) of the 177 billion
pounds of milk produced annually in the United States. New Mexico is also
the seventh-largest state in total number of cows, with 340,000 lactating
animals, and the eighth largest in milk productivity with an average of
21,192 pounds of milk per cow per year. The state ranks first in dairy herd
farm size, with almost 2,000 adult cows per farm, and ranks third in
productivity among the top 10 milk-producing states. The production of
milk in New Mexico has grown 33 percent and the number of cows has
increased 30 percent in the last five years, while the productivity per cow
has jumped 57 percent in the last 20 years. Dairy is the most important
agricultural industry in New Mexico, bringing in more cash receipts than
any other agricultural activity. About 40 percent of the $2.6 billion in
agricultural cash receipts come from the 172 dairy farms in the state. Milk
alone has been the No. 1 cash commodity in New Mexico for the past four
years, with receipts in excess of $1 billion in each of the past three
years.
Dave Kurzawski is an account executive with
Chicago-based commodities brokerage Downes-O’Neill LLC.
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