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

Class III trading took off Thursday with 1,827 total contracts changing hands as we continue to move away from the holiday lull. The front month January 2012 contract gained 10 cents to settle at $17.19, while the biggest gains took place in the remaining first quarter months. Feb 2012 jumped 29 cents to $17.60, while March 2012 pushed higher 32 cents higher to settle at $17.76. Some of these gains can be attributed to the bump in spot prices, but the recent uncertainty related to weather conditions in South America and surge in grain prices certainly have lent a hand to the recent bullish tilt in the Class III.   

We often say that traders have short memories. Lately, however, their rear-view is focused on the beginning weeks of 2011. While we reported that cheese was seemingly in balance yesterday — and that has not changed — some buyers are on edge right now because we don’t have a great deal of wiggle room on fresh cheese. Perhaps we’ll enflame those worries during the IDFA Conference in Palm Springs later this month as we did last year. Or maybe they get extinguished.  For now, the gain in open interest was notable with an increase in Feb of 377 and March of 198 contracts many new positions are being added as commercials worry about a repeat of early 2011.

We would be remiss, however, not to mention that market tops are typically marked by a final surge in both volume and open interest. Too early to tell, but it appears that producers like the price action this week and we expect that farm hedging may pick up as prices approach and exceed breakeven levels.

Even the cheese futures got in on the active trading day posting a total trading volume of 124 contracts.  Jan12 cheese gained .018 to settle at $1.635. First-quarter cheese pushed .0216 higher to settle at $1.6613. Volume was dispersed more evenly than in the Class III, as bullish support was garnered from the 6.24 increase in Oceania Cheddar Cheese prices which came in at $1.8541, a stiff premium to U.S. pricing — and a possible cause for an increase in U.S. cheese on the international marketplace. 

The grain markets had a big correction yesterday on forecasts for rains to reach the dry areas of South America this weekend. That, in combination with a sharply higher U.S. dollar, led traders to book profits and sell out of long positions. March corn dropped 15 cents to settle at 643 ½, March wheat followed suit dropping 20 ¾ to settle at 629 ½ and March beans lost 21 cents to close out at 1209. Whether or not these desperately-needed rains materialize in a manner to limit crop damage is something that needs to be closely monitored. Any less than a hardy rain, and grain prices will likely still have some support as forecasts turn dry again following this rain. This week ending selloff could continue tomorrow with margin calls for all of the fresh new longs coming in of late. If the market continues to pull back sharply, we will be looking to purchase call spreads to protect open grain ahead of the weekend and next week’s USDA report.

Grains reversed course overnight recovering some of yesterday’s steep losses. We look for corn to open 3 to 6 cents higher and for beans to open 6 to 10 higher.

Daily CME spot market prices:

Block cheese: $1.61 (up 3 cents)

Barrel cheese $1.585 (up 0.75 cent)

Butter: $1.605 (up 0.5)  

Grade A NFDM: $1.45 (unchanged)

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