30 141 W. Jackson Boulevard THE HIGHTOWER REPORT FUTURES ANALYSIS & FORECASTING Suite 4002 Chicago, Illinois 60604 312-786-4450 / 800-662-9346 www.futures-research.com Special Report SOYBEAN COMPLEX SPRING OUTLOOK February 5th, 2004 The soybean market may still be in a position to work significantly higher into this summer, but the anticipated pre-south American harvest squeeze or the potential world tightness squeeze due to a poor crop in South America are both potentially bullish factors which seem to have been altered by the good crop conditions for the south American harvest and by lower than expected demand from Asia. We will review the grain market situation in this report, starting with the soybean oil market and ending with the wheat situation. SOYBEAN OIL Insulated from world demand factors and on track for extreme tightness this summer From a harvest low of 23.75, May soybean oil has rallied nearly 6 cents, as the tightening supply of oil due to the lower crush pace, a lack of adequate soybean supplies, active export demand for soybeans and the active usage pace for oil have supported soybeans and the products. The January USDA reports 35 30 25 20 15 WEEKLY NEARBY BEAN OIL Cents per Pound 10 95 96 97 98 99 00 01 02 03 04 projected an even lower crush pace for the rest of the marketing year, as the tighter than expected supply of soybeans has left the USDA with the choice of either a) driving the ending stocks forecast lower to a level The information in this report may be considered dated upon its release and should not be considered interpersonal advice. This report is merely an opinion on the market and is a reflection of conditions as of its publication. Market conditions change! Traders should not consider entering positions without their own independent analysis of the market s current situation, nor without further consideration of any changes to the information contained herein that may have occurred since this report was written. The authors are not responsible for any verbal or written claims and opinions that might be provided in conjunction with this report. The trading suggestions contained herein have been provided merely as a general guide and only for the purpose of quantifying the authors opinions. This report includes information from sources believed to be reliable but no independent verification has been made and we do not guarantee its accuracy or completeness. Opinions expressed are subject to change without notice. This report should not be construed as a request to engage in any transaction involving the purchase or sale of a futures contract and/or commodity option thereon. The risk of loss in trading futures contracts or commodity options can be substantial, and investors should carefully consider the inherent risks of such an investment in light of their financial condition. Any reproduction or retransmission of this report without the express written consent of Hartfield Management, Inc. is strictly prohibited. 1
which many believe is below pipeline minimum supply or b) assume price rationing is taking place due to the higher price and that crush and export will fall off to allow for ending stocks to remain unchanged at 125 million bushels. Since the USDA chose the latter, production of meal and oil is expected to come in below usage and the ending stocks for oil are now pegged at 1.006 billion pounds, the lowest since the mid 1980 s and the tightest stocks/usage ratio since 1984. While this is a tight situation, the emergence of the South American crop is expected to provide for a move to near zero for oil exports from the US during the April-September time frame, so the USDA report does balance and make sense. In the case of soybean oil, however, there is one assumption that was made to balance the tight stocks outlook which may be difficult to achieve without even higher prices for oil. In order to keep oil ending stocks near the critically tight 1 billion pound level (5.8% stocks/usage), soybean oil prices will need to move high enough to cause a drop of 4.9% in domestic usage, which may be a difficult task. Demand for oil in the US is mostly price inelastic. How many end users for oil in the US will lower their usage by 5% because prices are higher this season? In other words, what price level will it take to see end users see a 5% drop in needs for the coming year? If usage drops off by only 2 1/2%, ending stocks would fall to just 585.5 million pounds. This would result in a stocks/usage ratio of just 3.5%, not enough oil for a full 13 days of usage. Where does this stand against history? In the supply/demand report, the USDA was forced to lower the crush for the season to just 1.455 billion bushels, down from 1.485 billion last month and 1.615 billion bushels last year. As a result of the lower crush forecast, the USDA lowered oil production for the year to just 16.38 billion pounds as compared with usage at 17.1 billion pounds this season and over 19.3 billion pounds last year. Ending stocks were lowered to just 1.006 billion pounds from 1.49 billion last year and 2.36 billion two years ago. Ending stocks have not been less than 1 billion pounds since 1985, and the stocks usage ratio at just 5.8% has not been lower since the 5.5% level seen in 1984 and 1964. The enclosed chart shows the price action for the May 1984 oil chart. If a 5.5% stocks/ usage pushed oil futures to 41.15, how high will futures MILLION POUNDS U.S. SOYOIL ENDING STOCKS vs STOCKS/USAGE RATIO 3,000 2,500 2,000 1,500 1,000 500 0 90 92 94 96 98 00 02 ENDING STOCKS STOCKS/USAGE 20% 15% 10% 5% 0% go if the stocks/usage is just 3.5% or 12.8 days of usage? World ending stocks are expected to come in near 1.63 million tons from 1.79 million tons last year, 2.57 for the 2001/2002 season and 2.72 million tons in 2000/2001. While all of the grain markets have moved lower recently due to the bird flu situation spreading through Asia, we should point out that the break in meal and soybeans due to the lower price for meal in China is a factor which could cause US crushers to slow the crush pace even further. The move by Japan to ban poultry imports from China seems to be the action that triggered concerns for declining demand for US soybean exports to China. If China crush margins are reduced further from the lack of poultry exports, demand for US soybeans could turn sour. In fact, a lower meal price will mean that oil production could drop, which would aggravate the tight stocks situation even further and could support higher oil values ahead. The market in the US will be extremely tight, but with normal weather in South America, global edible oil supplies should be up sharply for the coming year, in spite of the shortened US crop. However, prices may need to move high enough in the US for soybean oil in order to reach a level where end users move to buy imported soybean or other oils. Production of key world oilseeds for 2003/2004 has been revised lower by the USDA in January this week to a record high 344.15 million tons from 344.93 million tons last month and 328.96 million tons last year. World ending stocks were 2
pegged at 39.77 million tons, down from 39.93 million tons last month and 42.54 million tons last year. While prices appear high and reached 10-year highs for nearby futures last week, if the monthly crush data or the monthly usage data ahead does not confirm that the domestic usage pace is going to drop by at least 5%, the historically tight situation would suggest that soybean oil prices could reach levels seen in other bull market years. October 2004 soybean oil is trading near 26.50 this week, while historically high pricing was seen for the October 1974 contract at 51.00, for the October 1983 contract at 36.50, for the October 1988 contract at 34.20, for the October 1994 contract at 29.54 and for the October 1998 contract at 29.55. With the potential tightness for this year reaching a level which is more bullish than any of these years, do not assume that the current bull trend has run its course. Suggested Trading Strategies: 1) Buy August Soybean oil at 28.30 with an objective of 34.90. Risk the trade to a close below 27.25. 2) Buy September/sell December Soybean Oil at 175 with an objective of 395. Risk to 130. 3) Buy August Soybean Oil 30 call for 160 points with an objective of 425. Risk to 65. SOYBEANS and SOYBEAN MEAL While the situations for soybeans and meal are not as critical as soybean oil, it is still questionable as to IN MILLION BUSHELS U.S. SOYBEAN ENDING STOCKS vs STOCKS to USAGE 400 350 300 250 200 150 20% 15% 10% 5% 100 0% 90 92 94 96 98 00 02 ENDING STOCKS STOCKS to USAGE CHINA SOYBEAN NET IMPORTS/EXPORTS MILLION METRIC TONS 25 20 15 10 5 0-5 -10 NET IMPORTS NET EXPORTS 80 82 84 86 88 90 92 94 96 98 00 02 CROP YEAR BEGINNING whether soybean prices have moved high enough to limit demand. To date, nearby soybeans prices have moved up towards 8.50 with near perfect weather in Brazil and good weather in Argentina. If Argentina or southern Brazil crops do not come in as high as expected due to the dry spells that occurred in January, the market may need to assume a less than bumper crop in South America and the need for higher pricing ahead. In the key government reports in January, the USDA pegged production in 2003 at 2.418 billion bushels as compared with trade expectations at 2.451 billion bushels and the December USDA forecast of 2.452. December 1st soybean stocks were pegged at 1.686 billion bushels as compared with the average trade estimate of 1.75 billion bushels (range 1.723-1.799). This is 427 million bushels below last year on December 1st (2002) and suggests extremely tight stocks for the rest of the season. Keep in mind, ending stocks are expected to be down just 53 million bushels from last year. Ending stocks were pegged at 125 million bushels as compared with the average trade estimate at 111 million bushels. While the ending stocks forecast is unchanged, the December 1st stocks were down 64 million bushels from the average trade estimate. With high priced soybeans and a speculative net long position that is at record highs, the market seems to need a constant flow of bullish news to follow through to the upside. The 3
Million Metric Tons WORLD SOYBEAN ENDING STOCKS vs STOCKS to USAGE 40 30 20 10 2003 = USDA Forecast 30% 25% 20% 15% 10% 5% U.S. SOYOIL DOMESTIC CONSUMPTION 18,000 16,000 14,000 12,000 10,000 MILLION POUNDS 0 0% 90 91 92 93 94 95 96 97 98 99 00 01 02 03 Ending Stocks Stocks/Usage% 8,000 81 83 85 87 89 91 93 95 97 99 01 03 CROP YEAR BEGINNING basic fundamentals for the soybean market remain very bullish, as analysts continue to see the current usage pace as unsustainable. Ending stocks are already projected at a 27 year low and with a soybean stocks/usage ratio at 5%, the market may be counting on meal imports for the summer and very tight oil stocks. A 5% stocks/usage is the lowest in at least 28 years. World ending stocks for soybeans for the 2003/2004 season are pegged at 35.98 million tons as compared with 38.74 million tons last year, 32.14 million two years ago, 30.6 million three years ago and 26.97 million four years ago. At near 18%, the world stocks/usage ratio is seen as slightly burdensome (see chart). 220 200 180 160 140 120 OCTOBER 1974 BEAN OIL Cents Per Pound 100 Nov 74 Mar May Jul Sep The soybean market looks vulnerable to a significant corrective break over the near-term as weaker demand from China, bird flu problems in Asia and the extreme overbought condition from the Commitment-of-Traders report are all factors which could lead to some long liquidation selling ahead. The Commitment-of-Traders report with options (as of January 27th) showed the market in a much overbought condition with the combined net long position of the large and small speculators over 100,000 contracts, a record high. Weaker than expected profit margins for China crushing plants and talk of cancelled or rolled orders could trigger long liquidation selling. China meal prices have been under pressure, which has caused plants to slow the crush or even halt operations. With high freight rates and lower crush margins, China buyers have already switched US soybeans for February and March shipment to new crop delivery (after the fall harvest for the 2004/2005 marketing year). The market is now searching for a price level that might slow the long liquidation selling associated with bird flu fears, rains in Argentina for the weekend of January 31st and disappointment over the FDA announcement on bone meal feeding. The number of birds destroyed so far in Asia looks alarming but will barely dent feedgrain demand for the region unless there is continued escalation of the virus. The actual loss of feedgrain demand due to the loss of nearly 23 million chickens is small when compared with the recent feed demand from Asia, but the uncertainty on whether this number grows to some multiple of 23 million 4
WORLD OILSEED STOCKS/CRUSH RATIO 16% 14% 12% 10% 8% 6% 80 82 84 86 88 90 92 94 96 98 00 02 CROP YEAR BEGINNING 13.8% 1000 900 800 700 600 500 400 WEEKLY NEARBY SOYBEANS Cents per Bushel 300 95 96 97 98 99 00 01 02 03 04 is the primary concern. In addition, feed manufacturers from the region are trying to delay or cancel shipments of meal and corn. In addition, the uncertainty has Brazil sellers concerned for future demand to the region. The death toll from bird flu has reached 15 and there is some concern that two sisters in Vietnam who died last month could have caught the disease from their brother. News that the flu may be coming under control in Thailand helped support the gains on Friday, January 30 th, but the spread of the flu to 10 of the 33 provinces of China and into Shanghai has added to the spreading concerns, and weakness in Asia stock markets was attributed to a possible BRAZIL SOYBEAN PRODUCTION MILLION METRIC TONNES 60 50 40 30 20 10 2003 = Est 90 92 94 96 98 00 02 slowdown in the economy and travel due to the spread of the virus. Rumors that the FDA may ban the use of meat and bone meal to poultry and pig feeding provided underlying support to the meal market until the FDA in late January indicated a few new rules to avoid the spread of mad cow in the US, but banning meat and bone meal was not one of them. In fact, while traders were hoping that the US would be forced to use more soybean meal in poultry and pork production, the lack of a ban for feeding and the fact that meat and bone meal is no longer exported due to the mad cow case in the US could lead to the opposite. Meat and bone meal prices have dropped about 40% since the mad cow case and the lack of exports and lower prices would suggest increased meat and bone meal feeding in the US and less soybean meal consumption in the months ahead. Meal seems to be the most vulnerable to the downside if the virus continues to spread and bird destruction grows substantially. If the flu comes under control without too much more population damage and if the virus fails to become widespread for humans, the market has likely overreacted to the downside. However, with the massive net long position held by speculators, the market does not need too much of an excuse to see active selling continue. Again, the extent of actual feed grain demand loss is still very minimal from the bird flu situation, but the uncertainty as to the economic impact or the continued spread of the flu has the trade cautious about demand. 5
USDA SUPPLY & DEMAND -- RECENT USDA REPORT -- Possibities for 2004-05 US SOYBEANS Jan Dec Jan USDA USDA USDA High Normal Low 97-98 98-99 99-00 00-01 01-02 02-03 03-04 03-04 Yield Yield Yield Area Planted (M Acres) 70.6 72.0 73.7 74.3 74.1 73.9 73.6 73.4 73.0 73.0 73.0 Harvested 69.6 70.4 72.4 72.4 73.0 72.4 72.5 72.3 71.5 71.5 71.5 Yield (Bu/Acres) 38.8 38.9 36.6 38.1 39.6 38.0 33.8 33.4 42.0 38.0 34.0 Beginning Stocks (M/Bu) 131 200 348 290 248 208 169 178 125 125 125 Production 2,703 2,741 2,654 2,758 2,891 2,749 2,452 2,418 3,005 2,719 2,432 Imports 5 3 4 4 2 5 8 8 8 8 8 Supply, total 2,839 2,944 3,006 3,052 3,141 2,962 2,629 2,604 3,138 2,852 2,565 Crushings 1,597 1,590 1,579 1,640 1,700 1,615 1,485 1,455 1,600 1,600 1,600 Exports 870 801 973 996 1,064 1,045 890 900 1,025 1,025 1,025 Seed 86 88 90 91 90 89 90 90 90 90 90 Residual 70 113 75 78 79 34 39 33 65 65 65 Use, total 2,639 2,595 2,716 2,804 2,933 2,784 2,505 2,479 2,780 2,780 2,780 Ending Stocks 200 348 290 248 208 178 125 125 358 72-215 Stocks/Usage 7.6% 13.4% 10.7% 8.8% 7.1% 6.4% 5.0% 5.0% 12.9% 2.6% -7.7% Traders are beginning to lower crop estimates for Argentina from the recent USDA forecast of 36.5 million tons due to dry weather. Recent estimates are coming in near 35.5 million tons. In addition, dryness in southern Brazil could also begin to ease production forecasts. Cumulative export sales in soybeans have reached 90.1% of the USDA forecast for the season as compared with 74.1% on average for this time of the year. Cumulative export sales in soybean meal have reached 82% of the USDA forecast for the season as compared with 58.3% on average for this time of the year. Continued cancellations or shifting of sales to new crop for meal and soybeans could trigger a reduction in the crush pace, which would be seen as a supportive factor for oil. The Census Bureau crush report showed December crush at 144.785 million bushels as compared with trade expectations at 143.3 million. Oil stocks came in at 1.586 billion pounds as compared with trade expectations at 1.616 billion and 2.4 billion last year. The new crop (2004/2005) outlook given reasonable demand forecasts (see table) would indicate that the market will either need to see increased planted acreage, lower demand or record high yields in order to avoid another tight situation for the coming year. This would suggest that November soybeans will be very sensitive to weather and planting news in the next few months. Suggested Trading Strategies: 1) Buy July Soybeans at 755 with an objective of 895. Risk the trade to 732. 2) Buy November Soybeans at 624 1/2 with an objective of 755. Risk the trade to 610. 3) Sell May Soybean Meal at 250.90 with an objective of 226.70. Risk the trade to 257.10. 6
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