The retail environment for the U.S. dairy industry is brightening as cheaper private label milk loses market share to branded products, boosting financial prospects for processors such as Dean Foods Co., analyst Alexia Howard says.

As the economy strengthens and commodity costs increase, food retailers are raising prices for many items and relying less on discounted, private-label dairy products to generate store traffic. As a result, food retailer pressure on dairy processors “seems to be abating,” Howard said.

“Retailers are no longer relying on dairy products to drive consumers into the store by using them as loss-leaders,” Howard said in an April 25 e-mail. She follows agribusiness for Sanford C. Bernstein & Co. in New York.

The improved retail climate bodes well for processors such as Dean Foods, whose profit suffered after the 2008-09 recession led to intense price competition among supermarkets and discount chains. While Dallas-based Dean Foods has a private label business, most of its products are sold under brands including Dean’s, Land O’Lakes and Meadow Gold.

During the first quarter, there was a “sharp” volume share decline for private label milk, Howard said.

That could help Dean Foods as consumers shift toward higher-priced branded products, meaning the company may reach a “fundamental inflection point” in the third quarter that signals stronger profit next year, Howard said.

“Pressure from retailers to play milk manufacturers against each other to obtain lower prices abated last summer, and so far we are not seeing any resurgence of such behavior,” Howard said in an April 25 report. That pressure “has been the biggest structural driver” of Dean Foods’ recent profit shortfalls, she said.

In 2010, Dean Foods posted net income from continuing operations of $146.5 million, down 47 percent from 2009. In November, Dean Foods’ shares sank to a 13-year low.

Reduced retailer pressure is reflected in a narrower gap between Dean Foods’ branded milk and private label product, Howard said. In February, Dean Foods’ branded milk was on average about $1.26 per gallon above private label, compared with a difference of $1.42 in May 2010, last year’s peak.

The narrowing gap “suggests that private label milk is no longer being as intensely promoted by retailers,” Howard said.

Prices for milk, butter and cheese are up over last year’s levels, contributing to a broader food inflation upswing that’s forcing consumers to pay more at the grocery store.

In March, fresh, whole milk averaged $3.50 a gallon nationwide at retail, up 9.7 percent from the same month in 2010, according to a government report.

Natural cheddar cheese averaged $5.07 a pound in March and salted grade AA stick butter averaged $3.69 a pound, year-over-year increases of 7.6 percent and 33 percent, respectively. The average butter price was the highest for any month, not accounting for inflation, since 2004.

Dairy prices probably will remain high in coming months, partly because a weak dollar has fueled stronger exports, Howard said. High prices should benefit dairy producers in general, though soaring feed costs are increasingly squeezing margins, she said.

“We also have to remember that feed prices, particularly corn, are also on the rise and this could start to pressure profits again as their own hedges roll off,” Howard said.

In trading April 25, May corn futures in Chicago rose 25 ¼ cents to $7.62 ½ a bushel. Corn futures have more than doubled since the middle of last year, as a smaller than expected U.S. harvest and expanding demand from ethanol makers led to tighter supplies.

Dean Foods shares rose 6 cents to $10.24 in afternoon trading April 25, up almost 16 percent this year.