An accurate market forecast — part two of two
Farmers do not want to hear that they may have to endure a few more years of tight margins before corn prices break out of the current trading range marked near 4.50 at the top of the range to become more profitable again. The 29-year corn price cycle suggests that a new base equilibrium period that can take a decade to form is required before supply and demand adjust to one another to become the next bull market in corn.
Corn production margins have improved after a few years of losses to what would appear to be a breakeven year in 2019. Cost of production has moderated slightly but not enough to boost profits to a level of healing financial wounds. In discussing the current financial situation of farmers with lenders they expect most farmers will again be financed this year but credit lines are tight. Farm income is not high enough for farmers to make a living. They boosted personal spending when corn prices were $7 bushel and are having difficulty tightening budgets again now that farm income is not covering living expenses. Disney vacations and new 4-wheelers are out of the budget. Young farmers with little equity need a life-line from family equity to survive this.
There is another group, somewhere around the 60-year-old age group, that lenders see who farm 500-1000 acres whose wife quit working when corn prices had gotten good who are not covering living expenses with current margins anymore. Over the longer term there will be another wave of consolidation where these operations melt into larger ones. Levels of equity determine financial viability of these operations. Some have enough equity that when stress tested by lenders, they could last 30 years yet with no income. They will not have to go that long.
Then there is the farm operation that is worth $5 mln which is losing $100,000 year. No one likes losing $100,000 year but they too can outlast this corn cycle to be there for the next bull market. No one is going to like the grind that we may have to go through yet and for some, their psychology will break before their financial statement does. They will tire out, age out and retire or do something else voluntarily. Fringe production areas of the corn-belt which could profitably grow $7 corn cannot afford to grow corn for half that price.
This is not the ag depression of the 1980s. Farmer equity is much higher with less leverage. Farm debt is rising, however, as income doesn’t cover expenses and the interest cost of servicing a larger debt begins to become a larger line item of expense. Farmers are betting that this period of tight margins is temporary and will pass and their balance sheets will recover. I think that it will instead protract until there is some kind of capitulation where it outlasts farmer’s tolerance to seeing their equity decline or the struggle to cover living expenses is just too much.
Then comes Dr. Elwynn Taylor’s drought cycle which forecasts a drought that rhymes with the 1930’s in a few years. It will take something fundamentally really material like a major drought to launch another bull market. China needs to come with a huge corn purchase, a La Nina needs to develop to break the string of trendline and higher yields or yet another use for corn materializes like the ethanol industry.
Farmers have a large portion of their 2018 corn unpriced in the bin and little new crop hedged. They are waiting for the corn market to go high enough where they can pay the bills. The corn market doesn’t care about that. When everyone is long and hoping for a price rally to sell, such a rally is typically labored and the possibility of disappointment is high. There may be too many bulls. This kind of analysis is “glass is half empty” stuff. Let’s take the approach that the glass is half full and there is opportunity in the 29-year-price cycle.
While maybe 20 percent of farmers are struggling to survive there are many others who have equity and are in a cash position to take advantage of hard times. Even during the ag depression of the 1980s there was a group of farmers who were angry when Washington bailed out the farmers and farm banks because they were hoping to ‘steal’ the neighbor’s farm when they went broke.
Farmland values have held up quite favorably because lenders did not allow farmers to get overleveraged into farmland purchases this time. There is virtually no land recently purchased coming back on the market as happened when farm income collapsed in the 1980’s. Farmers continue to buy neighboring farms. The dollar and interest rates are no-where near as high as the 1980s.
This time it is bad RFS and trade policy that is weighing on farm incomes. Farmers are using the equity in land to re-finance to generate operating capital which keeps operations going. Lenders have been busy re-structuring short term farm debt into long term debt but for most, the equity is there to do it. They will be in position to benefit from the next bull market in the Ag sector even if it takes a few more years of struggling to base first. Farming has always been a long-term enterprise. Our family farm is now taking on its 5th generation. The new generation will benefit from the next cycle.
David Kruse is president of CommStock Investments Inc., author and producer of The CommStock Report, an ag commentary and market analysis available daily by radio and by subscription on DTN/FarmDayta and the Internet.
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