Market Matters Blog

Corn profit margins appear to be sailing into headwinds after soaring during the past few years of booming consumption.

Analysts expect prices to soften this year, perhaps even fall below the breakeven levels of high cost producers, as demand stagnates and Brazil grows its supply available for export. The long term price midpoint for corn should fall to $5 per bushel, causing corn acreage to contract 5 to 6 million acres in the next few years as farmers switch to other crops, according to a recent study by the Rabobank's Food & Research Advisory group.

"The three largest drivers of U.S. grain prices over the next few years will be demand from the U.S. ethanol industry, import demand from China and supply performance in Brazil," says report author and Rabobank Food and Agribusiness Research and Advisory (FAR) group Vice President, Sterling Liddell.

"It's our belief that corn prices will adjust lower, with a long-term midpoint of around five dollars per bushel. We also anticipate U.S. corn exports will struggle to regain 2009 levels, as farmers are impacted by these tighter margins. As a result, farmers will be forced toward cost efficiency, productivity growth and tighter financial management, and away from investment and business growth."

The market is poised to transition from a seller's market to a buyer's market -- as long as there's no major production fiasco in 2013. High prices are the cure for high prices. A short crop has a long tail. Pick your favorite cliche for it: the supply/demand balance has been tilted in farmers' favor for the past five years, and now the global balance sheet is trying to reset.

Rabobank's report outlines the demand headwinds the U.S. corn faces, and they're hefty.

Since 2005, ethanol has been responsible for one third of global grain demand, but consumption growth is set to slow dramatically. By 2015 corn consumption for ethanol will grow 8.7%, according Rabobank's report, compared to a 186% growth rate from 2005 to 2012. Ethanol production is expected to level off around 12.9 billion gallons per year, using roughly 4.7 billion bushels of corn.

The report goes on to explain the challenges of getting a 15% ethanol blend to the market and the infrastructure and price issues that are keeping a lid on E85 expansion, and concludes that corn demand for ethanol will struggle to surpass 5 billion bushels in the next few years.

Then there's China. Rabobank considers China a big wildcard for corn demand largely because market mechanisms aren't always China's motivating factor. China's small scale farmers simply can't produce enough corn to meet China's usage, while the livestock industry continues to industrialize and expand as more Chinese eat more meat. Rabobank expects China to continue on a similar growth pattern as the past few years, but you there could be a few hiccups along the way.

While China will still buy, it'll have more sellers to choose from, and Rabobank expects the increasing competition to reduce U.S. export potential.

"Unless there is a contraction in global production capacity, we expect annual U.S. exports to struggle to regain 2009 levels of over 1.90 billion bushels over the next three years," the report stated.

Five years of high prices boosted global production with Brazil increasing exports 50% while Ukraine increased their exports by 60%. However, softening global prices will be unlikely to drastically reduce Brazilian output, partially because of lower Brazilian production costs and because double cropping corn after soybeans is seen as a cheap way to increase profitability.

Logistical challenges in Brazil -- specifically a lack of loading and storage capacity at ports -- have delayed shipments of soybeans with the domino effect of pushing corm exports into November and December, competing with the U.S. during peak export season.

Sounds pretty gloomy, right? So how did Rabobank arrive at their $5 per bushel midpoint forecast? The average stocks-to-use ratio from 1995 to 2009 (before weather events like floods and droughts hit the market) is just above 14%, which "suggests an equilibrium point in the supply/demand relationship over time." Rabobank assumes the market will adjust price momentum to drive production and consumption to the equilibrium point.

In the most likely scenario, a slightly lower than average crop yield (155 bushels per acre) is harvested from enough acres (95 million acres planted, 87.4 ma harvested) to rebuild stocks. Prices drop and the ample stocks flow into subsequent years, causing contraction in corn acres and expansion in soybean acres. Short term prices move to $4.50 per bushel, while medium term prices (one to three years out) move to $5 per bushel.

If exports to China increase 200 million bushels in the 2013/14 marketing year, the U.S. would still maintain a 12% stocks-to-use ratio. Near term prices would be slightly higher, but would return to the midpoint of $5 per bushel as acreage would decline in 2014.

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