tight margin

Tight Margins Will Stick Around Until 2022

Producers can take steps to maximize margins this fall

High feed costs and low milk prices are two situations no dairy producer wants to experience. Unfortunately that’s a scene that has played out over the past few months on dairy farms across the country.

A combination of production shortages in South America and increased purchases from China drove commodity prices up at the beginning of 2021, and harvest uncertainties due to drought in major corn producing states have kept prices high. A stronger ethanol market hasn’t helped.

“Feed prices started climbing late last year and steadily rose until about the end of July. We’re starting to see a little bit of a reprieve but they are still well above trend line and five year averages,” Trent Dado, owner of Dado Dairy Consulting, said as part of a Bovinews podcast. “Dairymen have definitely felt the squeeze, for sure, especially as 2021 contracts are starting to expire.”

On the milk price side, Class III values have been on their usual roller coaster, taking a dip at the beginning of the year and peaking in May before falling off through July. There’s been a lot of movement within any given month. The primary reason, according to Mike North, a principal with Ever.ag, has been highly variable barrel cheese prices.

“If you look at what barrels have done over the last couple of months, we’ve seen price acceleration in the front half of the month, a little bit of a rally into that second week, and then prices fall back off. And that trend has continued so over the last three months we have had prices at $1.30,” North said, in another Bovinews podcast. “So if we were to just talk about barrels, and use the old thumb rule that every penny in cheese is a dime in milk, that represents about a $5 drop in milk price.

Three basic steps

Looking forward, there are actions producers can take now and into the fall to have a positive impact on margins.

1. Put up good forages.

In dairy rations forages make up the bulk of the diet, and a significant portion of those forages are made up of corn silage. Moving corn silage from a 35% starch to a 40% starch, according to Dado, will save producers a pound or two of ground corn per head per day. Utilizing starch from home grown forages versus paying $250 per ton for ground corn delivered to the farm is a significant cost savings, Dado says.

The same philosophy can be applied to alfalfa haylage. “Moving up crude protein in these forages from an 18% to a 22% has an equal impact on our protein cost, saving a huge amount of purchased protein through soybean meal or canola,” says Dado.

2. Look at byproducts

Most byproducts have followed the lead of corn and soybeans and are higher in price, but there are a couple of good values available. With higher fuel prices driving ethanol production, distillers grains are readily available and reasonably priced. While the higher fat content in distillers grains could have a negative impact on milk fat, Dado says it may be a short term trade off producers are willing to make. Corn gluten meal is another byproduct with high protein and fiber levels that is pricing in nicely, he says.

3. Keep feed ingredients in the ration

When margins tighten a common reaction is to pull out high priced feed ingredients. Remember those ingredients are designed to improve milk production and improve feed efficiency, which is something that should of primary focus when feed costs are high. While he can understand that reaction, Dado says it’s not something that should be considered, especially considering the impact those ingredients have on milk solids.

“I’m hesitant to pull those feed ingredients out because the value of the milk we’re shipping is still going to be much greater than the value of the feed that we’re feeding,” says Dado.

Moving forward, Dado expects feed costs to remain relatively high through the balance of the year.

“It’s going to be awhile before we get back to normal inventories of corn, soybeans” says Dado. “So even with a bumper crop, we’re still going to be pretty tight on inventories.” Dado doesn’t see many signs pointing to feed costs coming back down to levels over the past five years, just with the amount of use and the general state of the economy.

Basis and Call Options

When looking for opportunities to establish contracts for feed needs going into 2022, North says to look at two areas: basis and call options.

“The first thing that I’d want to see is where their basis level live. How much more premium over the board price are they pricing soybean meal to you? What is the canola basis relative to soybean meal?” says North. “A good basis is certainly something to go after, because we can always come back to the price element and manage that on the board.”

On the corn side, there will be a lot of corn leaving fields and entering forage piles and bins over the next few weeks. Prices are currently over $5 per bushel, so there isn’t much reason to lock up prices for a significant portion of your feed needs into 2022. The way North advises to manage the forecasting situation is with call options.

“We really like using calls to create a defensive strategy, because we have seen the market come off of some of those higher prices that we were witnessing over the past few weeks,” says North. “So take advantage of the price but leave a little bit of room to go after good basis and use call options to defend against any further upside.”

Optimism for Stronger Margins

Even if higher feed prices continue, North sees reason to be optimistic for stronger margins given the milk price outlook. As of mid-August, Class III milk futures prices for 2022 average almost $17.50/cwt, well over the five-year average. Even though cow numbers are high and inventories are full, demand continues to be strong and should stay that way through the Holiday season.

“Aside from any movements away from the demand side of the equation, margins look like they have a bit more positive outlook as we get later into the year and into the new year,” says North.

To hear the full podcasts by Trent Dado and Mike North, you can click down below:

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