Month: August 2018

The wool market opened after the winter recess with what appeared early to be a negative sentiment on the back of an increased offering. This didn’t last long, as by the end of the week buyers were keen to purchase and pushed the market above the previous close.

The Eastern Market Indicator gave away 25 cents on the first day, however by the end of sales had picked up 9 cents above the previous sale close to settle at 1,990 cents AU$ terms (Figure 1).

The EMI was also stronger in US$ terms, closing at 1,480 US cents, up 18 cents on the week.

When we thought that perhaps the wool market would settle down into maybe a declining market after the extreme ride that occurred pre-recess, in fact, the result this week suggests that we may not have seen the last of this “Bull” market.

Sellers began the week reluctant to follow the market lower, but by the end of the week, there was a positive tone, with a total of 4.7% passed in for the week.

An offering of 49,415 bales resulted in 47,0176 bales sold, a solid clearance for the resumption of sales.

A couple of notes from AWEX caught the eye; early in the week, the better style wool held in the face of a softer market, while lower quality types struggled to find support. This has been a notable pattern over recent times especially when the market is soft.

The other message was in regard to non-mulesed wool; it was noted that buyers competed aggressively, especially on Thursday. We are hearing of a more regular demand and AWEX is reporting more frequently identifiable premiums for wool designated non-mulesed.

Crossbred wool didn’t see the shining results of Merino fleece this week. Demand was lacking and as a result, 26-28 micron wools lost 50 to 90 cents.

Merino Cardings also improved with the Cardings Indicator in Sydney – 13, Melbourne – 16 and -31 in Fremantle compared to the previous sale.

The week ahead

Next week all centres are listed to sell.

A look ahead shows that roster offerings are declining, with 37,290 listed for next week and 33,761 for the following week. This should support the market in the short term.

There is an old market adage that the best cure for high prices is high prices. They often encourage additional supply to come to the market and lead to a price easing which was certainly the case for most lamb and sheep categories this week.

East coast saleyards reported declines for all categories of lamb and sheep, except Restocker Lamb, which managed an 8.7% gain to close back above 600¢/kg cwt (Table 1). The remaining lamb categories posted falls between a 3-4% magnitude, with the benchmark Eastern States Trade Lamb Indicator (ESTLI) sitting right in the middle of the pack at a 3.5% decline to 761¢/kg cwt. Mutton registered the weakest drop, down 2.8% to close at 421¢/kg cwt.

Combined East coast lamb and sheep yarding levels remaining elevated and well above the normal seasonal range. This is a bit of a clue to the weaker prices, with the additional sale yard numbers acting as a drag on prices (Figure 1). At nearly 260,000 head yarded this week, throughput levels of lamb and sheep are sitting 44% above the seasonal average for this time in the year. Above average sheep and lamb yardings were reported across Victoria, NSW and South Australia, suggesting it’s not just the dry conditions in NSW encouraging the stock to be brought forward but also the decent prices on offer.

The surge in sheep slaughter noted in last week’s commentary extended further this week with an additional 10% added to see the highest weekly sheep slaughter since 2015 at over 152,000 head of mutton processed for the week ending 3^rd August (Figure 2). In contrast, lamb slaughter numbers continue to slide, reaching the lowest weekly total it has seen this season at just over 307,000 head and resting 5% below the five-year seasonal average for this time in the year.

What does it mean/next week?:

Apart from Victoria, there continues to be little rain forecast for the upcoming period. Despite the easing prices this week for most categories of lamb, across the East coast prices remain well above the levels they recorded this time last season (Table 1). Indeed, Heavy Lambs are sitting 36% above 2017 levels at over 800¢/kg cwt. This suggests supply will continue to be encouraged forward and with that in mind its likely to see a continuation of softening prices into the short term.

Price volatility, market uncertainty and climate variability across regions can play havoc with the normal seasonal spread behaviour between categories of sheep and lamb. With the Eastern States Trade Lamb Indicator (ESTLI) coming off record highs, the ongoing live sheep export issues facing WA producers and dry conditions affecting NSW producers we thought it time to assess the state of play with regards to state spread behaviour for a range of categories of lamb and sheep.

Analysis of percentage price spread discounts and premiums for a variety of categories of lamb and sheep across the states is shown in Figure 1. The orange dash signifies where the current price spread premium or discount is sitting relative to the ESTLI.

Overlaid on the chart is the historic mid-point for the spread, which gives an idea of the average seasonal spread level for this time in the year (black dash), and the normal seasonal range (green columns). The green columns show where the spread has fluctuated 70% of the time during this part of the season for the last decade.

The current discount spread for NSW Restocker Lamb shows that they are very much underpriced compared to the ESTLI with the spread level sitting well below the normal range at a discount of around 45% to the ESTLI. This is unsurprising, given the dry conditions facing producers in NSW now.

Interestingly, the WA Restocker Lamb spread shows a similar picture to the NSW situation, with the discount spread of around 60% to the ESTLI sitting below the normal seasonal range. The seasonal conditions in WA haven’t been as dire as those facing NSW producers but perhaps the uncertainty around the live export trade is giving WA producers second thoughts about building up flock size.

To get a quick snapshot of the categories of lamb and sheep that are significantly above or below the normal level we have produced a chart that shows the percentage that the current spread level is above or below the average midpoint level (Figure 2). Along with Restocker Lamb in NSW and WA it shows that WA Trade Lamb, WA Heavy Lamb and NSW/Victorian Mutton are all registering below par spread performance at the moment.

However, on a positive note, the South Eastern mainland states Merino and Heavy Lambs are faring relatively well, registering current spread levels that are 5-25% above the norm. The stellar performance of wool prices this season is underpinning Merino Lamb prices and is appearing to keep the Merino spreads to the ESTLI in good shape.

What does it mean/next week?:

The SA Merino Lamb spread is performing particularly well compared to the other state Merino classes. This seems to have drawn out a few more Merino lambs in SA in recent weeks with the yarding level trending around 45% above the seasonal average (Figure 3).

The additional supply of Merino lamb in the SA saleyards is likely to put pressure on the spread in the coming weeks to see it move back toward more normal seasonal levels.

Key points:

• WA lamb and sheep spreads to the ESTLI have been underperforming in recent weeks which suggests that the uncertainty around the live sheep export situation may be having an impact on price.
• NSW Restocker and mutton spreads showing the most impact from the dry conditions.
• Merino and Heavy Lamb spreads in the South Eastern mainland states are performing best, with SA Merino Lamb doing particularly well.

The rally in lamb and sheep prices has come to an end, for now. Trade lambs lost a little ground, heavy lambs are as rare as hens teeth, and sheep supplies seem to have started to flow. Restocker lambs can’t find any friends, as expected in dry times.

We’re not sure if they are leading indicators, but restocker lambs and the mutton prices both tanked this week. Figures 1 and 2 show a drop for restocker lambs of 96¢ and 47¢ for mutton prices, both to levels near those of this time last year.

The Eastern States Trade Lamb Indicator (ESTLI) lost just 10¢, so still hasn’t managed to breach 800¢ yet. The ESTLI finished Thursday at 788¢/kg cwt, while Heavy Lambs remained the star of the show at 842¢. Weight remains king in the lamb market, and while mutton and restocker lambs are priced pretty well historically, rising feed costs means the cost of getting weight in lambs, or wool on sheep, is getting prohibitive.

Lamb slaughter for the week ending the 27^th of July finally slipped below last year’s levels. We’re still thinking that a lot of light lambs are being slaughtered, which is propping up the number of head, but the production of lamb meat is likely to be back.

Mutton slaughter last week ramped up significantly (Figure 3), hitting the highest weekly level since December 2015. It’s little wonder mutton prices took a hit. Sheep slaughter doubled in NSW and was up 61% in South Australia.

What does it mean/next week?:

The Bureau of Meteorology (BOM) released another depressing three-month outlook earlier in the week, forecasting 20% chance of better than median rainfall across most of NSW and Victoria.  This doesn’t mean it’s not going to rain, it just means chances are there won’t be a lot of it.

As such, the current dynamics afflicting the market, being a good supply of light lambs and tight supply of finished lambs, is likely to continue.

In our lamb analysis this week we have looked at the demand-based reasons as to why the Eastern States Trade Lamb Indicator (ESTLI) has been on the improve since the 2000’s. Given the market recess for wool, we thought a demand and supply retrospective would be of benefit too, in order to help explain one of the key drivers for surging wool prices.

The Mecardo Lamb analysis that focuses on demand curve shifts that have led to higher lamb prices can be viewed here.

The laws of economics state that demand curves have an inverse relationship to price. This means that as prices increase the quantity demanded declines and as prices drop the quantity demanded increases. This is outlined by demand curve D1 in Figure 1.

On the other hand, supply curves have a direct relationship to price. As prices rise so does the quantity supplied and as price falls the quantity supplied is lower, as highlighted by the supply curve S1 (Figure 1).

Market forces will act to push the price to an equilibrium level where the quantity demanded is equal to the quantity supplied. This is where the demand and supply curves intersect at a price level of 400 and a quantity of 22 units –  point E1 on Figure 1.

In the case of the wool market, there has been a steady decline in wool supply since the collapse of the Reserve Price Scheme in the early 1990’s and the gradual switch from wool production to cropping. As such, for every price level, the quantity of wool supplied is now lower. This can be represented on the demand and supply diagram as a shift in supply to the left, with the supply curve moving from S1 to S2 (Figure 2). The new equilibrium level (E2) under this scenario of reduced supply is shown as a price of 600 and a quantity of 20 units. In this circumstance, the price has been driven higher by a contraction in supply over time.

Analysis of the wool market supply (bales produced per year) and price (Eastern Market Indicator – EMI) since the early 1990’s confirms the theory that reduced supply has been a key driver of higher wool prices. As identified in Figure 3, annual total wool bale production has declined from over 4.5 million bales in 1992 to under 2 million bales in 2016, with the EMI more than doubling over that time frame from 600¢/kg clean to over 1200¢/kg.

Key points:

• Supply of wool has been in decline since the early 1990s and is a key underlying reason as to why wool prices have been increasing over time.
• The annual level of wool bales produced has more than halved over the last two decades which has coincided with wool prices more than doubling in value.
• In recent years the wool supply has stabilised, yet prices have continued to climb suggesting demand led factors are behind the current market rally.

In last week’s piece on deflated lamb prices, we mentioned that the underlying reason behind the increased lamb prices we have seen since 2000 has been increasing demand. This analysis highlights the lamb demand curve and shows why prices have risen despite increasing levels of lamb slaughter and production.

Recap on the deflated lamb price article here.

Before we cover how the demand for lamb has shifted over time it is probably prudent to provide a summary of the basics of demand and supply curves. Economic theory states that demand curves have an inverse relationship to price, or as prices rise the quantity demanded falls and as prices fall the quantity demanded rises. This is outlined by demand curve D1 in Figure 1.

In contrast, supply curves have a direct relationship to price. As prices go up so does the quantity supplied and as price goes down the quantity supplied is reduced, as highlighted by the supply curve S1. In a market, the competition between buyers and sellers act to push the price to an equilibrium level where the quantity demanded is equal to the quantity supplied. This is where the demand and supply curves intersect at a price level of 400 and a quantity of 18 units –  point E1 on Figure 1.

Let us assume that in this market something happens, other than a change in price, that increases the demand for this product. This could be a successful advertising campaign for the product, an increase in income levels for the people that buy this product or perhaps a competing product become more expensive, leading to buyers shifting their preferences to this product. This would mean that for every price level, there is now more quantity demanded and this is represented by a shift to the right of the demand curve to a new spot, D2 on Figure 2. The new equilibrium point in the market is now established at point E2, at a higher price of 500 and a higher quantity of 19 units.

Effectively this has what has been happening in the lamb markets since around 2000 onwards. We have been seeing successive shifts to the right in the demand curve as the demand for lamb increases. We can see the plot of the demand curves for lamb as highlighted in Figure 3. Annual average price levels based on the Eastern States Trade Lamb Indicator (ESTLI) have been plotted against annual average lamb slaughter levels to estimate the situation of the demand curve at different points in time.

There are some more Economics 101 lessons in the Mecardo Wool analysis this week that focuses on supply curve shifts that have led to higher wool prices.

What does it mean/next week?:

The current surge in lamb prices suggests that the demand curve for lamb may have shifted further to the right again, fueled by a growing Asian middle class, a series of successful Meat and Livestock Australia marketing campaigns and a reduction in supply from our only export competitor, New Zealand.

The step ups in lamb prices, outlined in last week’s article on deflated prices tend to coincide with the shifts in demand outlined in Figure 3. Furthermore, the current demand curve shows that if there are no more shifts in demand in the coming years its likely lamb prices may soften back towards the mid 500¢ level for the ESTLI by 2022 as production and slaughter begin to increase. However, if the dry persists and the flock rebuild is delayed, the ability to increase production will be constrained, leading to sustained prices at current levels.

Additionally, if demand can stage another shift to the right beyond the next few years (as Asian buyers continue to become wealthier) there isn’t any reason why we can’t see an ESTLI of 900-1000¢ as we head towards 2025.

Key points:

• Since 2000 the lamb demand curve has continued to shift to the right, signifying that factors other than price movements have been responsible for an increase in demand for lamb.
• The shifts in the demand curve have coincided with intervals in time when the ESTLI has seen a step-up in the trading range.
• Growth in Asian wealth, successful marketing campaigns by MLA for Aussie lamb and a reduction in NZ supply are all reasons why demand for Australian lamb has increased since 2000.