Klassen: Supply is up, will demand follow?

Market Update: The economy needs to improve before consumers will buy more beef

All factors considered, Canadian cattle producers need to be cautious because the market is contending with a year-over-year increase in supplies and softer demand for 2016.

The U.S. experienced historically low beef production in 2015 but it appears with the expansion of the cattle herd, beef supplies will sharply increase from now through 2017.

This means the focus of the market will turn to consumption by the average American consumer. It is worthwhile to know the indicators to watch for this year.

I’ve mentioned in previous articles that a one per cent increase in consumer spending equates to a one per cent increase in beef demand. The income level of the average American consumer is the main influence of beef consumption levels, especially since about half of the carcass is consumed by people with average to above-average income.

How we got here

It is important to understand the current situation of the average consumer and how we got to this point. The recessionary low period occurred back in the final quarter of 2010. U.S. unemployment was hovering at 10 per cent and wages had deteriorated with the surplus labour pool. Consumer confidence was also at a low and the U.S. economy was struggling with low housing starts, a housing crisis and high consumer debt loads.

The economy started to improve in 2011 through 2013. Housing starts improved, unemployment was starting to come off the higher levels and consumer confidence was increasing. In 2014, we started to see a notable increase in wages as the labour pool tightened. This acted like an accelerant on beef prices with overall production moving into a historical low. Crude oil was still near $100 in August 2014 but then started the long-term trend lower.

Consumers were getting back on their feet financially and confidence levels increased sharply in 2014. Unemployment levels dipped under the long-term average of 5.8 per cent in the final quarter of 2014. From the recessionary low, there were about eight million Americans who had gone back to work at higher wages. Retail beef prices reached historical highs in the U.S. during the first quarter of 2015.

By the second quarter of 2015, there were signals that suggested the beef demand was stagnating. Housing starts, a leading indicator of the economy, reached their highest level in June 2015 since November 2007 — and 2007 was the highest reading prior to the recession. Some of this is seasonally influenced, but the main point is housing starts have been stagnating or even slowing in certain regions.

By the final quarter of 2015, U.S. unemployment levels were hovering at five per cent, below the long-term average of 5.8 per cent. While we may see minor adjustments in upcoming months, the large gains have already occurred. We’re not going to see one or two million people go back to work. In fact, it will be difficult to experience significant gains when the main energy sector is contracting.

Finally, consumer confidence, which is a lagging indicator, reached the highest levels in September, 2015 but have since started to ease. Consumer confidence is an economic indicator, which measures the degree of optimism consumers feel about the overall state of the economy and their personal financial situation. How confident people feel about the stability of their income will affect their economic decisions and spending activity. If consumer confidence is high, consumers will be eating out more often and vice versa.

Negative factors

The U.S. economy is now dominated by higher wages, rising borrowing costs, and corporations struggling with narrower margins. Housing starts are not improving but rather stagnating or slowing. All resource-based companies are struggling, which is the backbone of the economy because of the spinoffs.

On top of this, there is election uncertainty. It is very plausible that the U.S could have a left-wing government, which tends to increase regulation and drive down profits of corporations and decrease spending levels of high-income earners.

I’m not saying beef demand will fall apart; the main point is that income levels are not improving and beef demand will stagnate or marginally decrease in 2016. U.S. ground beef prices are down four per cent compared to February, 2015. U.S. whole­sale beef prices dropped sharply before Christmas but are currently at levels not seen since February of 2014.

About the author

Columnist

Jerry Klassen is manager of the Canadian office for Swiss based grain trader GAP SA Grains and Produits Ltd. He is also President and founder of Resilient Capital which specializes in Proprietary Commodity Futures Trading and Commodity Market Analysis. Jerry owns farmland in Manitoba and Saskatchewan but he grew up on a mixed farm feedlot operation in Southern Alberta, which keeps him close to the grassroots level of grain and cattle production. Jerry is a graduate of the University of Alberta. He can be reached at 204-504-8339.

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