Animal Proteins - Second Quarter 2020 Review

About: Invesco DB Agriculture ETF (DBA), Includes: COWB


Andrew Hecht, Hecht Commodity Report

via Seeking Alpha - Jul. 1, 2020




·         The composite of meat prices moves lower in Q2 - Dislocations in the supply chain distort beef and pork prices.


·         Animal proteins fell 4.83% in Q2 and were 23.95% lower for the first half of 2020 - The only sector posting a loss for the second quarter.


·         Live cattle prices fell 9.99% in Q2.


·         Feeder cattle rebounded 8.96% in Q2.


·         Lean hogs post a 13.46% loss in Q2.


The animal protein or meat sector moved 4.83% lower in Q2 and was 23.95% lower over the first six months of 2020. In the meat markets, results can be skewed by term structure, given the seasonality in the prices of beef and pork. However, risk-off conditions in all markets weighed on the animal proteins over the first half of this year.


The first and second quarters of 2020 will go down in history as one of the most challenging periods since the Great Depression in the 1930s. Markets across most asset classes suffered price declines and a rollercoaster of volatility. Animal proteins were no exception. Live and feeder cattle futures prices moved in opposite directions in Q2. Both cattle markets were trading at lower prices than at the end of 2019. Lean hog prices declined significantly in Q2 and over the first six months of 2020. The pandemic caused significant dislocations in the meat markets. Ranchers and producers saw prices fall to extremely low levels as the peak grilling season that started at the end of May approached. At the same time, as coronavirus infected people all over the US and worldwide, processing plants shut down, causing bottlenecks when it came to supplies.


Live cattle futures fell to lows in late April and staged a bit of a comeback in May and June. Lean hogs followed a similar path but were weaker than the cattle futures at the end of Q2.


The iPath B Bloomberg Livestock Total Return ETN product (COWB) reflects price action in the meat markets. The Invesco DB Agriculture ETF (DBA) has exposure to the meat futures markets.


Live Cattle Review


Live cattle futures fell by 9.99% in Q2 and were 26.50% lower so far in 2020. They rose by 0.67% in 2019. The nearby month live cattle futures contract on the CME traded in a range between 80.50 cents and $1.27550 per pound so far in 2020. Nearby live cattle futures closed on June 30 at 91.65 cents per pound.


Grain or feed prices have a significant impact on the price of beef. High feed prices often cause producers to take cattle to processing plants early at lighter weights to avoid paying the input costs. Lower feed prices often lead to heavier carcass weights and lower prices.


The 2019 crop year in the US produced ample supplies to meet global requirements. The trade war between the US and China had resulted in gluts in the US, while shortages could develop in the world's most populous nation. However, each year is a new adventure in agricultural markets. As we move into the third quarter of 2020, it will be the weather conditions in the US and around the world in the Northern Hemisphere that dictate grain and feed prices. The third quarter of the year is the heart of the growing season when dry spells can cause significant price volatility in the grain markets.


When it comes to the inputs for raising cattle and all animal proteins, prices are sensitive to price action in the grain sector as feed prices are a primary input in raising animal protein. Soybeans moved lower by 0.20% in Q2 while corn fell 0.66%. CBOT wheat posted a loss of 13.85%. Production of grains will now depend on the weather conditions during the summer months across the US grain belt and other producers in the northern hemisphere.


The price of live cattle futures fell to a low in April and rebounded over the rest of Q2 from the low.


The weekly chart of live cattle futures shows that price momentum and relative strength were on either side of neutral territory on June 30. Open interest moved 4.03% higher in Q2, which is a marginal move during the peak season for demand. Many markets experienced declines in open interest because of risk-off conditions on the back of the virus.


As we move into the third quarter of 2020, live cattle futures will reflect the ongoing impact of coronavirus on processing plants and consumer demand. Moves in grain prices always have the potential to alter the behavior of cattle producers. Grains rallied on the final session of Q2. At the same time, an outbreak of a disease in cattle herd around the world could cause wild price volatility as we witnessed in past years when mad cow disease and African swine fever caused the meat markets to move dramatically for periods. Q2 ended with the live cattle futures above the lows for 2020. However, at the end of Q2 2019, the price was almost 19 cents per pound higher at $1.1050 per pound. The problems created by coronavirus and the bottlenecks at processing plants could set a stage for shortages in the future as ranchers raise fewer animals because of the economic distress in 2020.


Feeder Cattle Review ...


Lean Hogs Review


In 2019, the price of lean hog futures rose by 17.14%. In Q1 2020, volatile hog prices moved 26.92% lower despite global supply concerns over the 2019 outbreak of African swine fever in China. In Q2, the price continued to decline and moved another 13.46% to the downside. Over the first half of 2020, lean hog futures were 36.75% lower, and the worst-performing member of the animal protein sector and the overall commodity asset class. The range in the pork market was a low of 37.00 cents to a high of 90.175 cents per pound for the six months that ended on June 30. The low in the hog futures market was the lowest level since 2002.


China is the world's leading pork consumer, so trade issues between the U.S. and China weighed on the price of the meat throughout much of 2019. The agreement with the Chinese provided optimism for 2020. However, the outbreak of the African swine fever in Asia changed the dynamics of the global pork market. The disease could be one of the reasons for the outbreak of the virus that caused the global pandemic as Chinese consumers could have set the stage for coronavirus in "wet markets" that offer a wide range of proteins that are far from standard in the west. China had significant strategic inventories of frozen pork, but they have declined. Meanwhile, the African swine fever spread to neighboring counties, as has coronavirus. Tensions escalated between the US and China in Q2, which is likely to end hopes of pork exports from the US to the world's most populous nation any time soon.


Nearby lean hog futures settled on June 30 at 45.175 cents per pound on the nearby futures contract close to the low end of the 2020 trading range.


We could see hog producers decrease output as a result of the economic problems over the first half of 2020. In the world of commodities, the cure for low prices is low prices, and ranchers and hog producers will limit the number of animals they raise after the problems at processing plants. A decrease in the amount of pork over the coming months could send prices even higher for consumers. They have not enjoyed the benefits of low futures prices because of availability problems caused by the supply chain. At the end of Q2 2019, the price of nearby hog futures stood at 72.10 cents per pound, almost 27 cents higher than at the same time in 2020.


Meanwhile, the technical position of the lean hog futures markets at the end of Q1 2020 highlights a market that was falling towards oversold territory.


As the weekly chart highlights, lean hog prices moved to the lowest price in eighteen years in April when they reached 37 cents per pound. The price recovered in late April, but hogs have been declining since early May.


Technical resistance on the weekly chart is at the December 2019 high at 72.60 cents per pound. Support on the weekly and monthly chart is now at the Q2 low at 37.00 cents. The open interest metric moved 1.64% lower during the second quarter of 2020. Falling open interest reflects the risk-off conditions because of the virus. As producers could not send animals to processing plants, they closed price hedges.


Producers have had to destroy animals because of shutdowns at processing plants. Q2 2020 was not a good period for producers or consumers in the hog and animal protein markets. The events could lead to shortages and far higher prices in the aftermath of coronavirus.


The prospects for animal proteins


As we move into Q3, the prices of cattle and hogs will continue to be sensitive to the news cycle on trade and coronavirus. We are in the heart of a very challenging grilling season for the meat markets. In 2020, the dislocations could continue to keep the pressure on meat prices. Meanwhile, we could see far higher prices in 2021 and beyond.


Cattle and hogs are both sensitive to feed prices, so changes in the grain markets could impact price action in meats during the second quarter of 2020 as the weather in the US during the growing season could cause periods of volatility.


Volatility is a paradise for traders, but in the world of meats, it can be hazardous. Since price gaps are the norm rather than the exception in the meat markets, stop orders may not result in optimal execution for risk positions. For those who do not venture into the volatile futures markets, ETN vehicles such as the COWB or MOO products tend to replicate price action in the animal protein markets. The DBA ETF product has exposure to meat futures and is also a product that reflects the price action in other agricultural commodities. The fund summary for DBA states:


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