Newsom on the Market

By Darin Newsom
DTN Senior Analyst

To build a better understanding of where corn may be headed in 2018, I want to start with the market's basic building block of its intrinsic value. To do that, I'll use the DTN National Corn Index (NCI, national average cash price). This way the market's long-term price charts and seasonal studies won't be skewed by the strong carry in futures spreads during the previous five years or so.

As always, for the long-term 2018 outlook, I'll use the NCI monthly chart. To simplify the matter even more, I'll use the monthly, close-only chart.

Here, in plain sight, we see a classic downtrend marked by lower lows and lower highs. On the low end, the trend line connects the September 2014 price of $2.83 3/4 to the August 2016 mark of $2.73. As for the highs, the trend line connecting the June 2015 high of $3.89 1/4 to the May 2016 high of $3.69 1/4 crossed June 2017 at $3.45 3/4. However, the best the NCI could do last spring through early summer, was a high monthly close of $3.35 1/4.

Take note of the patterns at play: Highs are occurring at lower prices every late spring to early summer with new lows established every late summer to early fall. Using the aforementioned trend lines, the NCI would project to a 2018 high near $3.26 in May or June, though coming in a dime below (similar to 2017) would project a high monthly close closer to $3.16. The cash corn would be projected to a trend-line low of $2.62 in August or September.

What would cause another sharp decrease in the NCI? Market fundamentals, plain and simple. Going back to the 2017-18 marketing year, corn ending stocks reported in USDA's Sept. 30 Quarterly Stocks report (stocks on hand as of Sept. 1, 2017) were 2.295 billion bushels (bb), the largest number since 4.259 bb was reported in September 1988. Given total supplies of 16.942 bb, including a record 15.148 bb of production, total disappearance/demand was calculated at 14.647 bb. Dividing ending stocks by total demand (ending stocks-to-use, or es/u) came in at 15.7%, the highest level since the 17.5% noted as the 2005-06 marketing year came to an end, when King Corn's Camelot -- otherwise known as the Energy Policy Act of 2005 -- was the beginning of an ethanol-driven demand market. Using es/u for each marketing year starting with 2006-07 and calculating daily average NCI prices projected the 2016-17 marketing year, average price should have been $2.90 and within a range of $3.20 to $2.45. When all was said and done, the NCI had a daily average of $3.21.

The first quarter of the 2017-18 marketing year has come and gone, and following this Friday's USDA reports, we have a reasonably good idea of what total supplies are and can make some new projections regarding demand.

First, supplies. Bringing the 2016-17 ending stocks figure of 2.295 bb and adding it to USDA's "final" 2017 production number of 14.604 bb, and adding in an estimated 50 million bushels (mb) of imports for the marketing year, total supplies would be calculated at a record large 16.947 bb.

Demand is still a question mark, because there is still 8 1/2 months, roughly, for demand to develop or fade. But, surprisingly enough, USDA's Dec. 1 quarterly stocks figure tends to be a solid indicator of what marketing year total demand will be.

Let's look at corn's first quarter quarterly stocks for the last four years. While the actual stocks numbers have varied from a low of 10.453 bb (Dec. 1, 2013) to a previous high of 12.384 bb (Dec. 1, 2016), the resulting quarterly demand/disappearance (total supplies minus quarterly stocks) averaged 31% of what total marketing year demand would ultimately be. Using this year's Dec. 1 (2017) stocks of 12.516 bb, and again the total supply figure of 16.947 bb, total first quarter demand comes in at 4.431 bb, meaning total marketing year demand could be projected at 14.284 bb. Subtracting this projected total demand from USDA's total supplies puts ending stocks at 2.663 bb and es/u at a whopping 18.6%.

Back to the previously mentioned study using es/u and national average cash price. An 18.6% es/u figure would equate to a national average cash price of $2.40, with a range of $2.70 to $1.95. Through the first 3 1/2 months of the 2017-18 marketing year, the NCI has an average daily price of $3.08. Recall the long-term chart showed an early harvest trend-line low monthly close of $2.62. A limited upside spring/summer rally followed by a sharp summer sell-off to close out the marketing year could pull the daily average NCI price close to the expected range, based on assumed 2017-18 es/u.

If we have used the strong carry in corn's forward curve to our advantage, and have hedge-to-arrive cash sales (basis still open) or futures hedges rolled out to the July futures contract, what are the expectations for basis in 2018? Again I'll use the national average, calculated by subtracting nearby futures from the NCI, understanding that local basis can and will be different based on local supply and demand. But the general trends should be similar. What we've seen the previous four marketing years, used because of the common link of being the largest production years on record, is generally flat national average basis. An early post-harvest peak is seen in late November at 29 cents under (December futures), then a slightly higher peak in late February at 26 cents under (March futures). The spring peak is back to 29 cents under (May futures), followed by 27 cents under (July futures) in late June. National average basis in 2017-18 has been running roughly 15 cents weaker than the four-year average to this point. Therefore, the summer peak against the July futures contract, if this pattern continues, would be projected at 42 cents under. Assuming initial cash sales/futures hedges were established at approximately 66 cents under the December futures contract, basis appreciation could be approximately 24 cents.

Let's talk about the futures market for a few moments, starting with old crop. There is an argument out there that, based on seasonal studies, previous old-crop sales should be re-owned with futures contracts or call options that will appreciate as the futures market rallies. A look at the four-year seasonal study does indeed show futures tend to rally, gaining an average of 9% (based on weekly closes only) from early October through early June. This marketing year's low weekly close, so far, occurred the fourth week of November (December futures contract) at $3.42 1/4. A 9% rally would imply a high weekly close in early June (July futures) of $3.73. Again, though, keep in mind the strong carry in the market's forward curve. As of this writing, the July futures contract is priced at $3.63, meaning a potential 10-cent improvement between mid-January and early June.

To bring the old-crop discussion full circle; if July futures have a high weekly close of $3.73 in late May (as opposed to early June), and national average basis is expected to peak at 42 cents under the July, that would fit with the expected high monthly close by the NCI near $3.26 in May or June.

On to the new-crop market, meaning a look at the December 2018 futures contract. The seasonal tendencies of December corn futures have changed over the years, with the five-year index (the last five record large crops) showing a steady downtrend from the first weekly close in December through the second weekly close the following October. All told, the contract tends to lose 23% of its value in that timespan.

This past December saw the contract post a first week's close of $3.85, a price that, according to its five-year study, would project a low weekly close next fall of $2.96. If the NCI is projected to hit a 2018 low monthly close next September of $2.62, and the expected national average basis versus the December contract could be 51 cents under, December futures would be projected near $3.13, with possible continued pressure through early October potentially offset by firming basis.

However, all is not hopeless for new-crop corn. From a technical point of view, late December 2017 saw the December 2018 futures contract establish bullish technical signals on its weekly chart, indicating the contract could rally back to the $3.98 to $4.10 area. This after posting a sharp downtrend from a summer 2017 high of $4.29 1/2 through the early winter low of $3.79 1/4. Fundamentally, the 2018-19 forward curve, though still early in the game, was showing a neutral level of carry in futures spreads.

Why the fundamental shift in attitude if 2017-18 projected ending stocks near 2.7 bb (see the discussion above) become 2018-19 beginning stocks in early September? The answer could be the great unknown of 2018 production, starting with planted acres. Early winter has seen the argument for U.S. corn planted to be as high as 91 million acres (ma), up slightly from 2017's 90.4 ma, or as low as a private estimate coming in near 86 ma. The November soybean-to-December corn (futures contracts) ratio is running near 2.6:1, well above the five-year average of 2.38 and the 12-year average of 2.29. If this spread is any indication -- and that remains an important question -- then U.S. farmers could actually plant more soybean acres than corn next spring. However, last year at this same time, the 2017 spread was 2.64:1, and the U.S. still planted slightly more corn (90.2 ma) than soybeans (90.1 ma).

The bottom line, though, is that regardless of a potential loss of planted acres to soybeans, the December futures contract is still expected to fall to near $3.00, meaning fundamentals are likely to grow more bearish as the 2018-19 marketing year works through its first quarter late in the calendar year.

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Editor's Note: We're sharing this week's Newsom on the Market commentary from DTN Senior Analyst Darin Newsom in our Top Stories segment across all DTN/The Progressive Farmer platforms. Newsom on the Market regularly appears Friday mornings on our DTN subscription products such as MyDTN. To find out more, visit http://www.dtn.com/…

Darin Newsom can be reached at darin.newsom@dtn.com

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(BAS/CZ)

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