Milk Prices on the Rebound, Wildcards to Watch

Even though U.S. milk production surged 2.5% in October, shrinking production in other regions of the world and increasing global demand mean milk prices likely will improve significantly in 2017, say University of Wisconsin dairy economists Bob Crop and Mark Stephenson.

"If you look at the U.S., these kinds of numbers would be leading to softness not firmness," says Stephenson. Twenty of the 23 major dairy states reported increased production in October. Even California, which had declining production for the previous 22 months, saw a 1.8% surge in output in October.

"But milk production is down in all major exporting countries," says Cropp. And seven of the last eight Global Dairy Trade auctions saw world prices increase, indicating an improvement in demand, he adds.

USDA is projecting about $1/cwt increase in the All-Milk Price in 2017. Cropp and Stephenson are even more optimistic, saying they're projecting a $2 bump in prices over this year.

"The average Class III for the year could be near $16.50, a good improvement over the expected $14.75 this year," says Cropp. A 16.50 Class III would suggest an All-Milk Price average of $18 or more.

Rabobank economist Tom Bailey is also optimistic about U.S. prices, especially later in the year. "We see continued pressure for a little bit of time," he says. "We expect a short-term increase in prices, followed by a flat period and a slight uptick in late 2017." Rabobank forecasts show Class III milk reaching $17.77 by the third quarter of 2017.

Despite this optimism, there are five wild cards dairy farmers need to watch as they enter 2017 and contemplate risk management options for the year.

Wild Card #1. The global dairy sector

"The perfect storm for high milk prices occurs when output in the European Union, New Zealand and the United States is lower than historical growth rates," says Mary Keough Ledman, editor of the Daily Dairy Report. In 2016, the European Union is down almost 3% and has a milk diversion program in place for at least the first quarter of 2017.

New Zealand was also down 5.5% in October year over year. That's significant because October is New Zealand's flush when pastures are the most lush and cows are milking at their peak. Of the big three players in global markets, only the United States is seeing increased milk production, up 2.5%. That's the highest increase year over year since 2014.

The other unknown is China's impact on the market going into 2017. USDA's Foreign Agricultural Service reports Chinese milk in 2016 could be down 4.9%. That's a decline of 4.1 billion lb, and analysts are projecting a further decline of 1.6 billion lb in 2017. But Chinese imports to make up for this dropping milk production have been mixed. In October, infant formula imports were up 31% but whole milk powder imports were down 12%.

Wild Card #2. The changing landscape of U.S. milk production

The strongest milk production growth is coming from the Dakotas east. Lack of processing capacity in Michigan, Ohio and Indiana means that basis in these states and areas that are absorbing their surplus is weakened until more processing capacity is built. U.S. cow numbers are also at their highest level since 2008.

Wild Card #3. Ample stocks of butter and cheese

"Cheese, butter and non-fat dry milk stocks are declining, but remain ample," says Ledman. "Recent monthly drawdowns of butter stocks bode well for prices."

Because U.S. cheese prices were higher than those in Europe and New Zealand, the U.S. imported a lot of cheese in 2016 and put a share of its own production into inventory. "For much of 2016, cheese markets were burdened by high U.S. stock levels. They are not nearly as large going into 2017," she says. But she also notes the EU is sitting on nearly 800 million pounds of milk powder, which it is slowly releasing back into the market as prices improve.

Wild Card #4. Price convergence

As noted above, high prices for U.S. cheese and butter made U.S. exports of these products come to a screeching halt in 2016. In fact, U.S. cheese exports in the first half of the year were close to a 10-year low. "In August, there was a convergence of cheese prices between the U.S. and the rest of the world, which stopped cheese from being imported here," she says. "Going into 2017, U.S. cheese prices are much closer to EU and Oceania prices."

A strong U.S. dollar against the Euro also does not help U.S. exports.

Bailey expects the U.S. dollar to remain strong given the global economic environment, putting a ceiling on price recovery. Plus, the global economy is expected to grow just 3.5%, which could also limit demand growth.

The one bright spot for the U.S. is non-fat dry milk powder prices. Mexico has been a huge market for powder in 2016. "We do not want any walls separating us from Mexico. Mexico is as important an export destination for U.S. dairy products as China is to New Zealand," says Ledman.

Wild Card #5. Weather

No outlook is complete without talking about the weather, says Ledman. Drought seems to be spreading in the West and Southeast. California, while it has had some rain, remains a trouble spot. In the Southeast, drought seems to be growing in dairy areas that rely on pastures and grazing for much of their forage. The Midwest seems to be the only region to be in good shape when it comes to adequate soil moisture. But again, early winter is way too early to make any predictions on how weather patterns will play out in the 2017 growing season.

Note: This story appears in the January 2017 issue of Dairy Herd Management.