Grains - The Hidden Message From The February WASDE Report

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by: Andrew Hecht

Summary

Planting season approaches.

Farmers may plant more beans and that is helping to boost corn.

Wheat is a sleeper.

Global demand continues to grow.

Every year is a new adventure.

In January, the U.S. Department of Agriculture told markets that inventories in soybeans, corn, and wheat had all increased dramatically from December 2015 to December 2016 on a year-on-year basis. After four straight years of bumper grain crops from 2013-2016, the terminals, silos, and other storage facilities for grains are full of the basic ingredients for many of the foods that make up our daily diets.

In January, the USDA also reminded us that while supplies are abundant, demand continues to increase each month, week, and day for grains alongside exponential population growth in the world. In their February report, the USDA tweaked some of their numbers as they collected more data after the end of the 2016 crop year. The January and February World Agricultural Supply and Demand Estimates reports are rarely missives that move the grain markets dramatically. The WASDE's that the government agency releases during planting, growing, and harvest season are a different story as changing weather can significantly change crop estimates with each storm, freeze, or weather abnormality. Those reports are coming soon for the 2017 crop year as farmers are about to end their winter hibernation and are getting ready to plant the seeds that will grow into the 2017 crops. While each year is always a new adventure when it comes to grain crops, the world has become more dependent on a bumper crop each year. After what would have normally been a bearish February WASDE report, grains rallied. The funny thing is, they moved higher on news that was not at all bullish.

Whenever a market should go down because of supply and demand data and it either holds steady or moves higher, something is usually going on. In the world of grains, that something is all about demand and the next time we do not get a massive harvest, watch out because the price action is telling us that the upside is explosive.

The price action in corn, soybeans, and wheat in the aftermath of the February WASDE report last week was a sign and a significant message for the grain markets.

Planting season approaches

On Wednesday, Feb. 14, pitchers and catchers reported for spring training and that means that the baseball season is just around the corner. The baseball season each year corresponds with the crop year and farmers are now getting ready for the all-important time of the year when they prepare their soil and plant seeds that lead to the 2017 crop year for soybeans, corn and wheat in the United States.

As farmers prepare for the upcoming season that begins in just a few short weeks in some parts of the U.S., they will closely watch futures prices. Futures markets in the United States trace their roots to farming as they allow agricultural producers to hedge or lock in future prices for their crops. The post WASDE rally in all of the primary grain markets reflect the uncertainty of the upcoming planting, growing and harvest season. While inventories still hang over the markets because of four straight years of bumper crops, we will likely enter this planting season with some prices that are higher than last year at this time in the nearby futures contracts. Source: CQG

Last year during the second week of February active month soybean futures were trading at under $8.75 per bushel. This year they are at the $10.45 level. Source: CQG

Last year corn futures were around $3.60 per bushel and this year the price is close to $3.705. Source: CQG

Only wheat is below last year's price at this time of the year. During the second week of February 2016, nearby wheat futures were at $4.60 and this year they are only 10 cents lower at the $4.50 per bushel level. However, global wheat inventories are at sky high levels. In February the USDA told markets that there was almost 20% more wheat in inventories at the start of December 2016 than there was in December 2015. Considering the massive carryover, the rebound in the price of wheat since the February WASDE report has been impressive.

Farmers may plant more beans and that will help boost corn

As farmers sit near their fireplaces warming their bones over the final weeks of winter they are likely watching the prices of corn and soybean futures, particularly in the new crop contracts. The new crop prices reflect the grains and oilseeds that are not yet in the ground.

Farmers always seek to maximize their most valuable commodity, the land they own or rent each year. Therefore, the farmer looks to plant the crop that will yield the greatest economic return. Source: CQG

The quarterly chart of the corn-soybean ratio highlights that since 1968 the average is around the 2.5:1 level or 2.5 bushels of corn value in each bushel of soybean value. When the ratio is below 2.5:1, corn is more expensive on a historical basis than soybeans. When the ratio is above 2.5:1, soybeans are more expensive on a historical basis than corn. Source: CQG

As of the close of business on Feb. 14, 2017, the price of new crop November soybeans divided by the price of new crop December corn stood at 2.56:1 indicating that soybeans are historically more valuable than corn. Therefore, for farmers who have an option to plant corn or soybeans on their land, if the ratio remains at its current level or moves higher in the weeks ahead, they are likely to plant more soybeans than corn.

Planting less corn and more soybeans is likely to provide support for the price of corn in the weeks and months ahead. Source: CQG

As the daily chart of March CBOT corn futures illustrates, the grain has been in a gentle uptrend since late August 2016 and the price has made a series of higher lows and higher highs. The most recent high came in the wake of the latest USDA WASDE report when futures traded to a high of $3.7675, the highest price since July 14, 2016. Source: CQG

The bullish trend in soybeans futures since late August has been more pronounced than in corn. Soybeans traded to highs of $10.80 per bushel on January 18 on concerns over the South American crop but they fell to $10.17 after a couple of weeks of positive weather conditions in Brazil and other Southern Hemisphere producing countries. However, in the aftermath of the February WASDE report, beans once again rallied reaching a high of $10.6350 and they remain north of the $10.40 per bushel level since.

Both corn and soybeans display bullish technical trading patterns since the end of August but it will be the weather in the U.S. over coming months that determine if the grain and oilseed can build on the positive price trends. Meanwhile, wheat fell to the lowest price in over a decade in 2016 but it has displayed signs of life over recent weeks.

Wheat is a sleeper

The wheat crop in 2016 and inventory carryover around the world was massive. The crop and supplies caused the price of the commodity to plunge. Source: CQG

As the monthly chart of CBOT wheat futures illustrates, wheat fell to the lowest price in a decade in August 2016 when the price of the active month futures contract reached a bottom at $3.5950 per bushel. Source: CQG

As the daily chart of March CBOT futures shows, wheat has rebounds from lows in late December and has made a series of higher lows and higher highs since working its way to the $4.50 per bushel level.

One of the reasons for the recovery in wheat is that low prices and high inventories caused farmers to plant the smallest winter wheat crop this year in over a century, since 1909. One of the bearish signs for wheat over recent months is that the price of Kansas City hard red winter wheat fell to a discount to the price of Chicago soft red winter wheat futures. The norm for the spread is a 20-30 cent premium for the Kansas City wheat. Over recent weeks the Kansas City wheat has rallied more than Chicago wheat and on February 14 it settled at a 15.75 cent premium to the Chicago wheat futures contract in March. I view the price action in this wheat spread as a positive signal for the price of the grain.

Moreover, the USDA told markets in its February WASDE report that it trimmed the wheat carryover by 47 million bushels when the market was only expecting a cut of 6 million. The decline in stocks was a first sign of life for wheat in many months and a sign of demand which is an ongoing factor for all grains. Wheat is a sleeper, it went down the hardest over recent months and that could mean that when the recovery comes it will be the leader in the grain sector. After all, when it comes to feeding the world, bread is a staple and wheat is the main ingredient.

Global demand continues to grow

The market has become accustomed to very bearish WASDE reports from the USDA after four straight years of bumper crops in the United States and around the world. However, the one constant in the USDA missives has been that demand for grains has climbed steadily, one record month after another.

Increasing demand for grains around the world is a function of population growth. The formula is not rocket science. Population growth has been exponential and each day there are more mouths to feed on planet earth.

Moreover, increasing wealth in nations like China has changed demand for food. Decades ago, the Chinese had a simple rice-based diet but over recent years the rising middle class in China and other Asian nations has caused demand for more complex proteins to climb. As more people dine on pork, beef, chicken, and other proteins, the demand for grains necessary to produce animals has increased dramatically. Soybeans are a great example of the increasing demand for animal protein as a bean product, soybean meal, is a major animal feed product.

The chart shows the massive growth of demand for soybean products in China over recent years. The United States is the world's leading producer and exporter of soybeans each year. In 1998/1999 China imported 4 million tons of soybeans, last year the number was 86 million tons. Total global bean production in 2016 was just under 338 million tons. Last year there was a bumper crop is soybeans and all grains. With global demand growing and population increasing, the world depends in record crops each year and the problem with that is that each year is a new adventure in the grain markets when it comes to supplies.

Every year is a new adventure

Only Mother Nature knows for sure what the 2017 season will look like when it comes to crop yields and total production. We have learned over the last four years of abundant supplies that the next time a weather event, crop disease, or any other issue causes anything less than another record harvest markets could experience a deficit. While carryover stocks remain large and could fill in a short-term supply issue, prices will rise as the world will quickly act to scoop up supplies at the first hint of any crop shortfalls in corn, soybean, and wheat markets.

As we head into the planting season of 2017 prices are higher in corn and beans and the marginally lower in wheat then they were last year at this time. Grains rallied after the February WASDE despite a confirmation of big supplies still sitting in storage. The not so hidden message of the price action is that there better be another record crop for all grains or watch out, the prices could be heading a lot higher and the rally will happen so fast it will make producers, consumers, traders, and investors heads spin.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.