Editor’s note: This market commentary is provided by the Dairy Division at FCStone/Downes-O'Neill in Chicago, Ill.

Class III futures fell precipitously Tuesday amid dwindling confidence that CME spot cheese prices will maintain their lofty perch for a protracted period of time. After opening mixed, light selling pressure pushed 2011 prices slightly lower ahead of the CME spot session. When tumbleweeds rolled through a quiet spot session with no bid (or offer) for the first time in weeks, traders reacted swiftly by selling an already discounted Class III market. The heavy selling wasn’t truly seen until the spot butter market began to trade and closed lower. Heavy trading volume — largely from what appears to be long-liquidation as opposed to nervous producer selling — resulted in more than 2,800 contracts exchanging hands.

After a near-vertical rally, one wonders if the fall from the wall of worry may be just as quick and painful to the downside. The market lost its bullish posture gained over the past few weeks, closing limit (75 cents) lower in both July and August.

It’s too early to say if this is a more poignant long-term market top or if this is merely the beginning of a potentially large bullish correction. One thing is for sure: The Class III prices are severely discounted to the current spot cheese market, and, as such, price swings may be volatile. With 1 ½ weeks to go before we start pricing July, it remains the highest price among Class III settling at $19.42, or close to $1.70/cwt below current spot valuation.

Overnight, Class III futures were trading mixed by late night with prices seemingly all over from 9 lower in Jan 2012 to 8 higher in September 2011. Volume was strong with 137 trades just before 11 p.m. By this morning, volume has increased up to 156 trades, and prices seem to be continuing to the upside now in a range of 9 lower to 14 higher with August, which settled limit lower yesterday, leading the rally.

We look for Class III to open mixed.

In the grains, what was sold aggressively meandered into positive territory during a classic “turn-around Tuesday” summer corn futures bounce. But the news was rather light, and the U.S. Dollar was under continued pressure throughout the day, underpinning the grain complex trade.

The job of the market is to get up to a price that users consume less than currently forecast. Ethanol margins are negative and livestock margins are not much better, but traders have not been willing to let the market crumble this early in the growing game. Prices are now approaching levels that once again may stimulate strong demand from both Chinese and domestic buyers.   

By this morning, prices have turned to the downside entirely, though losses are very small thus far. We look for corn to open steady to 3 cents lower;  soybeans to open 3 to 5 lower.    

Daily CME spot market prices:

Block cheese: $2.11 (unchanged)

Barrel cheese: $2.05 (unchanged)

Butter: $2.1025 (down 2.25 cents)  

Grade A NFDM: $1.6425 (unchanged)

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Source:  FCStone/Downes-O'Neill