The Market's Fine Print

The Art of the Squeal?

John Harrington
By  John Harrington , DTN Livestock Analyst
Either candidate for president could fall back on a career in the expanding U.S. pork industry if they lose in the upcoming election, says DTN Livestock Analyst John Harrington. (DTN photo illustration by Nick Scalise)

If the electorate ultimately decides to decline Donald Trump's invitation to "make America great again," I can easily see this flamboyant showman quickly pivoting back toward his first love of wheeling and dealing in the business world. Maybe it's just me, but his from-the-hip rhetoric on the hustings this fall suggests a cooler desire for the Oval Office than the robotic determination of Mrs. Clinton.

While you get the feeling that Hillary has been carefully planning every detail of her campaign since she was an extremely focused Girl Scout, Donald almost acts like he's killing time between firing would-be apprentices and naming his next high-rise.

I don't mean to disparage the sincerity or good intentions of the Republican nominee. But you have to wonder if someone so intoxicated by the entrepreneurial spirit could truly be happy hopelessly mired in governmental gridlock. Love him or hate him, all agree that Trump is in top form among global movers and shakers.

Members of Congress, bureaucrats and international diplomats may be many things, but aggressive business partners who love to put wheels under exciting and risky projects they are not.

Who knows? Perhaps a defeated Trump would happily find solace in the expanding U.S. pork industry. Although farrowing barns and finishing floors may seem far afield from his typical wheelhouse of urban real estate and casinos, I would argue that the extreme price structure of the current hog market fits well with Donald's well-documented appreciation for short-term tax benefits on one hand and long-term profits on the other.

Put another way, the extreme bearishness suggested by late-2016 lean futures coupled with the tall premiums of late 2017 seems to represent a great investment opportunity for anyone skilled in both the tax use of carryover operating losses and significant asset appreciation.

With December 2016 closing on Wednesday at $41.45 and December 2017 settling at $59.00 (i.e., a $17.75 premium), the year-long hog market appears to be a long, dark tunnel. On the nearby opening, the path forward looks as lifeless as a black hole yawning in deep space. Yet for those brave enough to blindly grope through six to eight months of darkness, the light at the far end should increasingly promise a great bullish sun.

For candidates too preoccupied with the campaign trail, fund-raising and general name-calling, let me explain this extreme market topography. It's really quite simple if you know anything about the relationship between packing house capacity and herd size. When the former exceeds the latter, that's good news for market hog prices. But when the latter significantly overshadows the former ... well, it creates an utter cash mess like the one currently unfolding before us (e.g., like getting lockjaw in the middle of a presidential debate).

The total hog and breeding herd counts were record large on Sept. 1, according to the quarterly inventory released last Friday, marking the fourth consecutive report in which market hog inventories set a new record for the respective quarter. So, although the industry has been in expansion gear for more than a year, packing infrastructure has remained virtually static.

As larger waves of market-ready hogs hit the same old processing beach, the ability of packers to swallow the numbers in a timely fashion becomes increasingly difficult. The necessary rationing of limited shackle space results in lower and lower prices paid to producers. Defensive prices simply become a way to regulate traffic on one hand and cover the greater cost of overhead (e.g., breakdowns, maintenance, overtime labor) on the other.

As weekly kills this fall approach practical kill capacity (probably somewhere around 2.45 million head), the country's barrow and gilt trade is falling like a rock. And if the new weight breakdown of market hogs is even generally accurate (actually, with the heaviest categories numbering well below actual slaughter seen since Labor Day), I fear it may understate the monster slaughter needs of the fourth quarter.

There can be little doubt that weekly chain speed will have to whirl faster than 2.5 million through most of November, and I can't rule out a single peak effort close to 2.6 million. Packing houses running at such a breakneck pace will take a heavy toll on both machinery and labor. Someone will be asked to pay the price. Probably producers.

The cry of "inadequate packing capacity" still triggers nightmares of late 1998, that horrible period of backed-up marketing that drove live hog prices into the single digits. Could a similar disaster happen in the twilight of 2016? Yes. Is such an extreme market price implosion unavoidable? No.

Even if fourth-quarter numbers turn out to be as large as many dread, late-year prices may be somewhat buffered by strong export demand, lighter carcass weights and the nervous desire of expanding processors to preserve their production base and market share. After all, a tremendous number of hog producers went broke thanks to the 1998 disconnect of plant capacity and herd size. With a significant number of new plants now in various stages of construction, the industry will soon need more finished hogs, not fewer.

Of course, that awkward reality points to the light at the end of the tunnel suggested above. Even while drowning in red ink, producers are being asked to find a life vest good enough to keep them afloat until the second half of 2017. I guess the message is "too much herd expansion today, but not enough for tomorrow."

Good luck taking that to the bank. Indeed, you may need the salesmanship of Donald Trump to get the job done.

By the time the dust settles on Nov. 8, maybe President-elect Trump will have more important fish to fry. Who knows? For purposes of illustration, I just found it easier to imagine "the Donald" sensing the profit potential behind this old-crop/new-crop spread. Can't see Hillary or Bill slopping hogs. Trump might not soil his little hands either, but he likes making money enough to find some hard worker with a good set of gloves.

John Harrington can be reached at feelofthemarket@yahoo.com

Follow John Harrington on Twitter @feelofthemarket

(AG/CZ)

John Harrington