Why was Q2 Milk Pricing so Volatile? What will Happen in Q3?
August 31, 2020
Cheese pricing data for the second quarter of 2020 is now complete. Some data is available for July. The charts in this post give us a good picture of why there were huge swings in dairy prices in the second quarter. Data for the third quarter of 2020 is showing major changes from the second quarter. This post will focus on Cheddar cheese as it is the primary commodity used to calculate producer milk prices.
In late April and early May cheese prices took a huge drop as COVID 19 uncertainty prevailed and domestic disappearance fell. Many buyers took advantage of this "buy on the cheap." In June and July cheese prices escalated to record prices. August prices are now "falling like a rock."
Cheddar cheese prices are the main parameter for producer milk prices. As shown in Chart I, production of Cheddar in the second quarter of 2020 was relatively robust compared to average production of the last three years. Compared to the second quarter of 2019, production of Cheddar is up 2.6 percent. Cheddar is not a growth product, so the increase is above norms. The record high cheese prices in June and continuing in July cannot be blamed on low Cheddar production.
Chart I - Production of Cheddar Cheese
Withdrawal from cold storage of American cheese for domestic use is shown in Chart III and net exports of American Cheese are shown in Chart IV. Both charts show a significant increase in June. Domestic disappearance of American cheese was up eight percent in June compared to the June level of the three prior years. Deliveries of American cheese for the Coronavirus Food Assistance Program (CFAP) contributed to the spike in June withdrawals from cold storage.
Chart II - Domestic Disappearance of Cheddar from Cold Storage
Cheese net exports were very low at the beginning of 2020 due to exchange rates. June net exports of cheese were up 75 percent from January of 2020 (Chart III). The June spike in exports is for deliveries of cheese purchased at low prices in April and May as reported by the U.S. Dairy Export Council.
Chart III - Net Exports of American Cheese
Comparing Charts II and III, the changes in domestic disappearance are far greater than changes in net exports of American cheese.
Strong production and strong withdrawals from cold storage, netted to a reduction in inventories of American Cheese (primarily Cheddar) in the second quarter. However, inventories are still at or above averages in the second quarter. In total there was no shortage of available American Cheese (Chart II below). Chart II below includes data for July as well as June. June and July inventories took a plunge from May but are still not showing an inventory shortage from norms. The inventories may not be exactly what is needed with the change from food service to retail demand, but overall, inventories of American cheese are not low.
Chart IV - Inventory of American Cheese
WHERE DO PRICES GO FROM HERE?
August is a four-week month for Federal Order Milk Pricing. Three weeks of data are in and the fourth week pricing will be available soon. There are three parameters for pricing Class III and another for pricing Class IV. Class IV milk prices have become more important with the change in pricing formulas implemented in May of 2019
All three of the parameters for Class III pricing are down. Cheese is by far the most important parameter and the price has taken a nosedive in the last two weeks. In two weeks' time it has fallen from $2.56 per pound to $1.92 per pound, a 25 percent drop. If the nosedive continues, it could drastically impact August producer prices.
Chart V - NASS Survey of Cheese Prices
The second most important parameter is butter pricing (Chart VI). It has also taken a dive in the last two weeks. Butter has dropped by 14 percent in two weeks.
Chart VI - NASS Survey of Butter Prices
Dry whey pricing, (Chart VII) which is used to price Other Solids, has also decreased. It has dropped from $.35 per pound to $.33 per pound, a five percent drop.
Chart VII - NASS Survey of Dry Whey Prices
The combined impact of these three commodities will likely reduce the Class III price to around $20 per cwt. As week-four is released and the August Class III price is calculated, this post will be updated.
Nonfat Dry Milk (NDM) pricing shown in Chart VIII is used to calculate the skim milk price of Class IV milk. NDM has been steady at its low price around $.97 per cwt. Therefore, the Class IV price will remain low and because the Class IV skim price is now used consistently in the Class I price calculation, the Class I price will remain low. Because the NDM price now determines not only the Class IV skim price but also consistently influences the Class I price, keeping the Uniform (average) price low.
Chart VIII - NASS Survey of NDM Prices
With the Class III prices falling, the PPD will not be as negative as it was in June and July. When week four NASS prices are updated and the August Class III prices are released, this post will be updated with the final numbers. Check back in a few days for these updates.