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HUNTIN' DAYLIGHT -- PROFIT TIME

by: Wes Ishmael

Still no word on the outcome of the BSE sample being retested by USDA seven months after the fact (at least not by deadline for this column).

As you know by now, USDA announced June 10 it was sending a sample—that had tested inconclusive as part of the enhanced BSE Surveillance Plan begun a year ago—then was confirmed negative with the immunohistochemistry test that USDA has bantered about being the gold standard of such tests.

When the retest announcement was made, USDA officials portrayed it as nothing more than keeping up with the Joneses, so to speak, utilizing another internationally recognized evaluation called the Western Blot test.

"...USDA's Office of the Inspector General (OIG), which has been partnering with the Animal and Plant Health Inspection Service, the Food Safety and Inspection Service, and the Agricultural Research Service by impartially reviewing BSE-related activities and making recommendations for improvement, recommended that all three of these samples be subjected to a second internationally recognized confirmatory test, the OIE-recognized (World Organization for Animal Health) SAF immunoblot test, often referred to as the Western blot test...," said John Clifford, USDA chief veterinarian.

Of course, this explanation did little to mollify a disbelieving industry: why in the world would you retest something that had already been declared clean. It's like recalculating the results of a judging contest after the results have been announced.

The USDA IOG, however, at least offered a reason for why. A statement from the USDA Office of Inspector General (OIG) explained: "In the course of reviewing voluminous records and information gathered during the BSE Surveillance Program-Phase II audit, OIG auditors noted an unusual pattern of conflicting test results on one sample and initiated additional testing of that sample...”

On top of that, there has been conjecture, attributed to a USDA veterinarian, no less, that if the sample in fact proves to be positive, perhaps it's a brand new, spontaneously occurring strain of the disease. Oh goody.

No matter how it pans out, USDA's ineptitude places the industry in a precarious position, perhaps a dicier one than when BSE was first discovered 18 months ago.

High Prices, But…

For one thing, the runaway market that kicked off in May of 2003 when BSE was first discovered in Canada, bequeathing that nation's export markets to the U.S., and taking their supply out of the U.S., is a thing of the past. It's not that supplies are that much looser, per se, but when BSE was discovered here in December of that same year, U.S. feedlots, trying to keep up with the extraordinary shortage of cattle were already more current than at anytime in memory. They'd been pulling show lists ahead by weeks to meet domestic demand and the export demand for U.S. beef that still was in place. And, through it all, domestic beef demand continued to grow dramatically.

Today's completely different.

Consumer demand is still growing at last count, but at a less robust pace.

The U.S. is still without two-thirds of the export markets it had before BSE struck here.

U.S. packers have been downsizing workforces, reducing harvest shifts, closing entire plants for good because of that sector's over-capacity, relative to available supplies and what retailers are willing to pay for product.

Three-figure breakevens, despite historically low feed prices (mainly due to historically high calf prices) are giving feeders incentive to hold cattle longer, put on more cheap gain and try to reduce their losses. Along the way, of course, the added tonnage produced by such a scenario sets the stage for the uncurrent conditions that build a bubble of tonnage, all dressed with nowhere to go unless it gets really cheap.

On top of that, economists like Mike Sands of Informa Economics believe the run-up in prices in 2003 when Canada lost its market, and before the U.S. did, included a substantial supply panic premium in the price. In other words, maybe that factor hasn't gotten as much of the credit it deserves, and maybe demand has. At a June stocker conference hosted by Elanco Animal Health, Sands explained, “If we are in the process of re-tracing the demand curve, it leaves a huge downside risk.”

Worse, the basic supply-demand fundamentals are turning more negative.

The Canadian border is still closed to live cattle younger than 30 months of age. If the court case were resolved expeditiously, it would be a surprise. Even if the border were opened quickly it seems unlikely packers here will get much immediate relief in the supply department. Between the logistics—recreating the delivery infrastructure, including plenty of new regulations to get cattle across the border—the fact that Canadian packers have had at least another quarter to build capacity, along with increasing prices relative to the U.S. market, means there will probably be less incentive to ship as many south.

All the while, Canada's growing packing capacity is positioning that nation to be the primary export competitor to the U.S.

“I suspect there is a reasonable chance that we (the U.S.) will never get back to pre-BSE levels in Japan,” said Sands. “I think folks looking to Asia for some significant price support will be disappointed.”

Alan Smith, chairman of the U.S. Meat Export Federation (USMEF) said as much last fall, when he spoke to cattle feeders about the possible timeframe for resuming beef exports to Japan.

“The next year or two will be especially challenging to USMEF and those of us who believe in the value of exporting beef,” said Smith. “We will be asked to reintroduce a product with a great track record for taste and safety whose reputation has been tainted in the minds of many international consumers. We will have to explain the science, we will have to build the case for product safety and we will have to resurrect consumer confidence in our product.”

With that in mind, Smith told cattle feeders, “As incredibly small as the risk is of having infected animals in the human food supply or of contracting the human disease from the beef we eat, BSE remains the single most challenging trade issue confronting this country, and other beef exporting countries, for that matter.”

All of this is before considering USDA's latest BSE bumbling.

Where to From Here

Does that mean the bottom is set to drop out of the market?

It depends on who you talk to, and how you define the bottom.

If you agree with Sands that a substantial price-premium based on supply-shock was built into the market, then that means the price could drop more than it otherwise would if it were responding only to fundamentals. Even if that is the case, though, most economists agree that beef is playing on an entirely new and higher price plain, so bottom should still be higher than if it wasn't.

Consider this, fed cattle were trading for $81/cwt. in mid-June. Historically speaking, that's off the charts, although it's at a sizable percentage lower than peak prices paid in the last quarter of 2003. Of course, the prices paid for the cattle entering the feedlot have been off the charts to a greater degree, so while the numbers are different the dynamics remain the same: packers lose money long enough that they stay out of the market long enough to force prices down to a profitable level; cattle feeders bleed long enough then pay less for the cattle coming in.

Bottom line, if the current prices do contain a substantial panic premium, sooner or later cow-calf producers will have to contend with it, too.

There are times fixed cost operators—cow-calf producers—have the advantage. At other times it's the margin operators—everybody else. This is the time for fixed-cost folks. Supply fundamentals still say calf prices should remain historically strong for at least another year or two. If the picture portrayed above is close to reality, though, when those prices turn south in this cattle cycle, the sledding could get extra tough because the same high prices producers have enjoyed selling calves are the same ones they've had to accept in replacing females.

In sum, it appears cow-calf producers are still in the enviable position of having the economic time to shore up the financial foundations of their individual operations. But the clock may be ticking faster than some folks have supposed.

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