By Colin Reeso
As of mid-November, soybean growers found themselves in the midst of an interesting set of circumstances. It's no secret that a huge supply of soybeans exists in the global marketplace and 2006 North American yields were excellent. With U.S. exports falling behind expectations through the fall, you'd think soybean prices would be softening. But soybean markets were going up!
The rallies had nothing to do with any immediate fear of supply shortages. In fact, ending stocks for soybeans are a very high 18.3% of usage. Normally this number comes in well under 10%.
Strengthening soybean prices don't make sense until you dig into it. It is all about corn and competition for acres in 2007 and beyond. Every commodity seems to get its turn. Last summer it was wheat and now it is corn. The futures market is looking a year ahead and predicting that if everyone jumps on the corn bandwagon, soybeans will have their turn in the 2007-08 crop year.
To understand what's at play for soybeans, we first have to talk about corn. The demand for corn is very strong. The high price of wheat has removed it from the feed market and ethanol demand is huge. The analysts say it will take $4 corn futures to slow down the ethanol market. The big 1.971-billion-bushel surplus carryover from the 2005 harvest had shrunk to 935 million bushels as of November, in spite of good yields across the corn-belt. Another production year like this combined with similar usage and we'll be looking at a negative carryover for corn!
The futures markets have noticed this fact, farmers have noticed and consumers are starting to notice as the price of breakfast cereal is rising. A U.S. forecaster called Informa has predicted farmers will plant an extra 6 million acres of corn next spring. Some suggest the market needs 10 million more acres of corn than was planted in 2006. There is no "new land" so the expectation is that these acres will be at the expense of soybeans. That is why the soybean market has potential to strengthen even further. The market is trying to slow down the rush to corn and secure soybean supply.
Even the most simple speculator understands the 2:1 price ratio of soy to corn. If you want to predict soy prices this winter, the math is pretty easy. If corn futures are at $3.50, soybeans need to be $7 or better to motivate soy acres.
Farmers are already ordering their seed, which will provide some idea of what is to go in the ground next spring. And the pollsters will be very active this winter, trying to figure out how farmers are going to react to these hot markets when they head to the field with the planter. Once again, the USDA's March 31 planting intentions report will be crucial to the market direction.
With corn riding high and pulling soybeans along, what can go wrong?
Brazil is the big threat. As we went into September, things were not good in Brazil. They have had back-to-back years with unprofitable conditions for soybean production. Much of the problem stems from the rise in their currency against the U.S. dollar (sound familiar?). We Canadians know what that will do to basis. The mentality was "anything but soybeans".
Analysts were projecting the national yield in Brazil to drop from 56 to 51 million tonnes. Farmers were looking at sugar cane and cotton as alternatives. These crops require a huge huge machinery investment with a lengthy payback, and with credit very tight it was gloom and doom.
Credit is easier to access for Brazilian soybean growers if they can lock in a profit by hedging on Chicago. The $6 per bushel value is a target. Could it be the frenzy in Chicago futures values in late fall bought last-minute acres in Brazil instead of the U.S.? All this occurred just as planting started in South America so we will soon find out what happened. Pay attention to reports from Brazil and Argentina. As of early November, planting weather had been ideal with lots of moisture.
If acres jump in South America and there are no bumps in the road for the crop down there, it could limit the upside for soybeans as we approach our planting season.
Another risk to soybean prices would be a collapse in the price of crude oil. This would be a double whammy because it would have an impact on ethanol on the corn side and biodiesel in Europe on the soybean oil front. Remember, if corn prices fall, the 2:1 ratio still works! Right now, soyoil markets are trending up. (See chart page 40.)
The speculative crowd played a big role in the soybean price run-up this fall. The index funds have huge resources and they allocate them to whatever looks undervalued. If fund managers decide to abandon the soybean pit for the new "hot" commodity, it would not be pretty. Soybeans are just a small piece of the Chicago markets.
So, what to do.
This is a demand-led market and we are not used to these. The good news is that demand markets tend to be long trends while a supply-led market can collapse very suddenly. Technical indicators like trend lines can be helpful. The market is into "blue sky" as far as overhead resistance goes. Unlike corn, soybean prices at early November are not what we would consider to be historically high. For 2006 crop, if you need the money, take some but find a way to stay in the market while it is trending up. It is really sad to have fantastic prices but nothing to sell.
For 2007 and beyond, watch for problems with the South American crop. And monitor planting intentions in the U.S. this spring. Be ready, willing and able to take profitable soybean prices for the next 2 crop years if they present themselves.
Forward contracts never go out of style and they work, especially if you have resting orders staggered to allow you to sell on the way up. Using futures contracts is getting scary now because you are really playing with the big boys, the fund managers. Options are pricey because of the volatility but they are a defined risk. Basis contracts pay you 75% cash and you ride the futures market. If you see the Canadian dollar strengthening, this may be a good way to go. There is no chance for basis appreciation but then there is no storage cost either.