A new era for grain, soybean prices? (Markets).

Supply did its part in sparking a strong rally in crop prices in 2002, thanks to production setbacks in key exporting countries. But can demand sustain a real bull market in a weak global economy?

After watching grain and soybean prices languish at historically low levels for the last

Yes, cycle advocates were talking about turnarounds that were due in prices. Yes, the longer a market moves sideways, the more energy it stores up for a move after a breakout. Yes, oats had provided an early example for grains by more than doubling in price in the last half of 2001 after production fell to a record low 117 million bushels.

Yet, the evidence for any kind of rally looked pretty weak as 2002 crops were being planted. Wheat futures couldn't escape the $2.80 per bu. area, corn futures struggled to stay above $2 per bu., and soybean futures threatened to fall to lows just above $4 per bu. With supplies adequate and a weakening global economy putting a damper on demand, prospects for bull markets seemed remote.

But devoted cycle followers don't concentrate on supply and demand factors. They just know that their cycles tell them that "something" will happen to fulfill the cyclical pattern. In 2002 a number of "somethings" came together to spark grain and soybean prices out of their lethargic sideways ranges. Among those affecting all markets was a cheaper U.S. dollar that made U.S. export supplies more competitive in world trading. If cycle analysts are correct, there may be a lot more to come as investors' love affair with paper assets continues to shift to a revival of physical commodity values.

The catalyst for starting a bull move often is something that affects the supply side. The key factors that sustain a real bull move are usually on the demand side--typically, anxious buyers trying to get their hands on a supply that is actually dwindling or is perceived to be getting tighter. The U.S. Department of Agriculture (USDA) will continue to adjust the supply numbers when it releases its crop production report Nov. 12 and its annual crop summary in January, but it is clear that the supply spark is already in place for a potential bull run (see "U.S. supply/usage estimates," left).

WHEAT: LEADING THE WAY

Wheat has been pretty much an afterthought in grain analysis in the last few years. As a food staple in breads and pastas around the world, it is grown in many areas, and the U.S. role in world wheat trade and its influence on wheat prices have diminished greatly over the last 20 years. As prices settled into the $2.50-$3 per bu. range during the last four years, U.S. farmers sowed increasingly fewer acres of wheat, and their output of all wheat dropped below 2 billion bushels in 2001.

Although U.S. farmers sowed a few more acres for the 2002 crop than they did for 2001, they actually harvested several million acres less due to weather problems that plagued all classes of wheat in almost all areas of the country and reduced the U.S. average yield almost five bushels per acre on those acres harvested. Consequently, all-wheat production totaled only 1.62 billion bushels in 2002, 17% less than in 2001 and the smallest crop since 1972.

U.S. production figures alone might have been enough to produce a small rally, but with the European Union, China, India and Russia all producing larger wheat crops than the United States in 2002, the U.S. impact on the world wheat scene isn't as significant as it once was.

What did get the bulls rolling this summer is that crops in several key wheat exporting countries kept getting smaller. Drought in Canada and Australia reduced the size of their crops sharply to about 15 million metric tons (MMT) each, the smallest output for Canada since 1974 and for Australia since the 1994-95 season (see "Where's the wheat," page 29).

Overall, however, global wheat production in 2002 won't be much lower than it was a year ago. Late-season rains and flooding prevented the European Union from exceeding its record crop of two years ago, but EU production in 2002 is still 12 MMT higher than a year ago. The former Soviet Union countries also produced a big crop of more than 93 MMT. Nothing very bullish in those numbers, but the location of exportable wheat could have a significant bearing on wheat prices this season.

Available supplies may not allow projections for usage to hold up, but if they do, the U.S. stocks-to-consumption ratio could drop to around 16%, much lower than the 35% range of the last two seasons. Globally, if the long-term uptrend in consumption continues as projected, the stocks-to-consumption ratio will fall to 22.6%, the lowest since the mid-1970s. The last time the ratio was as low as 25% was in 1995-96, when wheat futures prices surged above $7 per bu.

Although wheat stocks have been declining since 1998-99, that fact didn't have much effect on prices until this year's rally, which retraced 50% of the entire down move from the 1996 high in a few months after cracking through the $3 barrier and quickly surpassing $4 per bushel--$5 in the wheat contracts traded in Kansas City and Minneapolis (see "Breaking out is hard to do," above). Will prices rise to previous levels or will rising prices shut off demand?

"I'm not a fundamental expert, but there are key patterns common to most major bull markets, and one is rising prices stimulate buying," observes Glen Ring, editor of View on Futures in Cedar Falls, Iowa. "Export sales reports in wheat confirm that buying (demand) is growing, not shrinking. This tells me the marketplace has likely not yet rationed supply, meaning there could be a lot more rationing to come. Eventually, 'high' prices will do the job. However, no mortal knows, with certainty, what is 'high' until after the move is done."

Even as traders focus on demand for the 2002 crop, the next round of supply is also an issue. With higher prices for wheat, farmers probably sowed more acres of winter wheat this fall, perhaps some on fields where other crops were abandoned due to weather losses. A Pro Farmer member in northwest Kansas reports very dry, dusty conditions remain a concern--"the poorest planting conditions since 1956," he says. Whether persisting drought will affect 2003 production remains to be seen, but traders won't "kill" that crop until they see what it looks like next spring. USDA will release its first estimate of winter wheat acreage in January.

CORN: ROUGH YEAR

The U.S. corn crop got off to a rocky start in 2002, especially on the eastern side of the Corn Belt where wet conditions delayed planting. Farmers did manage to plant 3 million acres more corn than in the previous year, according to the USDA. As often is the case, prices rallied with hot, dry conditions going into the critical pollination period in July. In recent years, that kind of weather scare rally was about all the market got as corn came through with good, but not bumper, yields, pushing prices back to the old plateau.

The situation got more serious this summer. The vulnerable corn in Ohio and other eastern Corn Belt areas dried up in a hotter-than-normal summer as did much of the dryland corn in Nebraska and other areas on the western side of the Corn Belt. Only in Iowa and Minnesota and surrounding areas in the central Corn Belt did the corn crop come through with generally big yields.

Putting everything together, the national average corn yield will probably be at least 10 bushels per acre below the 2001 level when the final figures are released. Instead of a 10-billion-bushel crop, the 2002 corn crop will more likely be around 9 billion bushels. Combined with a carryover of 1.6 billion bushels, down 16% from a year earlier, total corn supplies will shrink to about 700 billion bushels at the end of the 2002-03 season--if usage projections hold up in the face of reduced supplies. The stocks-to-use ratio could be cut in half in one year to the 7%-8% area.

Seasonal harvest pressure kept a lid on corn prices early this fall after they made a run at $3 per bushel. In the long run, however, analysts think more price rationing may be necessary. Animal numbers are about the same as a year ago so feed use, which accounts for the largest share of corn usage by far, may not change much, and USDA sees an increase in exports because of weather problems in Canada, Mexico and elsewhere.

A number of new ethanol plants will help the food/seed/industrial usage category increase by about 100 million bushels this year, according to USDA estimates. Ethanol capacity is now estimated at 2.7 million gallons a year, but Congress may mandate an increase to 5 million gallons over the next 10 years, providing an ongoing source of corn demand. On the one hand, higher energy prices increase the cost of diesel fuel for production and natural gas for drying; on the other hand, high oil prices provide a greater incentive to boost ethanol production.

SOYBEANS: MORE COMPETITION

Bull markets in crops usually are associated with soybeans, which tend to get more attention from analysts. However, soybeans have not been the leader in making a milestone price breakout off the bottom like wheat has. In the bigger picture, soybeans have a long way to go to achieve the price levels of previous decades (see "Barely started?" above).

Demand for soybean meal and oil remained surprisingly strong through-out the year, keeping both crush and exports above the levels of the previous year and taking carryover down to 208 million bushels on Sept. 1. With soybean acreage in 2002 dropping from a year earlier by about a million acres and the national average yield off a couple of bushels because of the summer weather problems, total U.S. soybean supplies are down about 9% from year-ago levels. The USDA projects domestic usage will remain rather steady but sees exports falling a substantial 200 million bushels this season. Even so, carryover could drop below 175 million, bushels at the end of this season, USDA projects.

Perhaps the biggest issue for soybeans on the export demand side is really a matter of supply: How many soybeans will South America grow? Recent estimates put the crop that is now being planted in Brazil at 48 MMT compared to 39 MMT in 2000-01 and 43 MMT in 2001-02. Brazil and Argentina together may have a total crop of 79 MMT (2.9 billion bushels). By comparison, U.S. production in 2002 is around 72.3 MMT (2.65 billion bushels).

In addition, the genetically modified organism (GMO) issue has not been totally resolved, and Brazil claims it does not produce any "Roundup ready" GMO beans, which are popular with U.S. growers. That could be a factor in shipments to China or other areas that are slow to accept GMO beans.

Also, the dollar advantage doesn't work here as Brazilian soybeans are priced in U.S. dollars. With the economies and currencies in South America in even worst shape than in the United States and soybean prices on the rise, Brazilian producers have an even greater incentive to grow more soybeans rather than corn or other crops, which are priced in the deteriorating real.

For the cycle skeptics, think about the forecasts of some analysts who see really big things in 2003--remember the cries of "beans in the teens" in the 1970s and 1980s. What could happen to soybean and grain prices if South America has crop problems similar to the magnitude of this year's wheat problems in Canada and Australia? Or if the United States experiences another poor growing season in 2003?

U.S. SUPPLY/USAGE ESTIMATES

Based on Sept. 12 and Sept. 30 USDA reports. All figures in millions
unless indicated otherwise. Totals may not add due to rounding.

All wheat

                    2000-01  2001-02  2002-03

Planted acres       62.6     59.6     60.1
Harvested acres     53.1     48.7     46.0
Yield (bu/acre)     42.0     40.2     35.3
Beginning stocks    950      876      772
Production          2,232    1,958    1,623
Imports             90       108      85
Total supply        3,272    2,941    2,480

Food use            950      928      930
Seed                80       81       81
Feed, residual      304      199      175
Total domestic use  1,334    1,208    1,186
Exports             1,062    961      950
Total usage         2,396    2,169    2,316

Ending stocks       816      772      344
Stocks/use ratio    36.6%    35.6%    16.1%

Corn

                    2000-01  2001-02  2002-03

Planted acres       79.6     75.8     78.8
Harvested acres     72.4     68.8     70.5
Yield (bu/acre)     136.9    138.2    125.4
Beginning stocks    1,718    1,899    1,600 *
Production          9,915    9,507    8,849
Imports             7        10       15
Total supply        11,639   11,416   10,464

Food, seed, ind.    1,957    2,055    2,170
Feed, residual      5,842    5,825    5,600
Total domestic use  7,799    7,880    7,770
Exports             1,941    1,900    2,000
Total usage         9,740    9,780    9,770

Ending stocks       1,899    1,600 *  694
Stocks/use ratio    19.5%    16.4%    7.1%

Soybeans

                    2000-01  2001-02  2002-03

Planted acres       74.3     74.1     73.0
Harvested acres     72.4     73.0     71.8
Yield (bu/acre)     38.1     39.6     37.0
Beginning stocks    290      248      208 *
Production          2,758    2,891    2,656
Imports             4        3        5
Total supply        3,052    3,141    2,869

Crush               1,640    1,700    1,675
Seed                91       89       87
Residual            78       92       84
Total domestic use  1,809    1,881    1,846
Exports             996      1,065    850
Total usage         2,804    2,946    2,696

Ending stocks       248      208 *    173
Stocks/use ratio    8.8%     7.1%     6.4%

Source: USDA

* Based on ending stocks in Sept. 30 Grain Stocks report.

RELATED ARTICLE: Where's the wheat?

A combination of fewer harvested acres and poor weather--too dry in much of the Plains Wheat Belt and too wet at the wrong time in spring wheat and soft red winter wheat areas--produced a sharply lower U.S. wheat crop in 2002, the fourth decline in production in a row and the smallest crop in 30 years.

Although the European Union, a competitor whose exports are enhanced by its subsidy program, had a near-record crop, output in other major exporting countries also declined. As a result, total world wheat production in 2002 edged lower for the fifth straight year. and traditional trade patterns will have to change as typical suppliers will not have enough wheat for their normal export shipments.

With output reduced and consumption maintaining its upward path, the world wheat stocks-to-consumption ratio is projected to fall to 22.6%, its lowest level since the "great grain robbery" in 1972-73. The chart shows price peaks the last few times when the stocks-to-consumption ratio dipped to the vicinity of 25%.

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Wheat production in key countries

(Million metric tons)

         Australia  Argentina  Canada  EU-15 *  U.S.  World

1990/91  15.1       10.9       32.1    89.1     74.3  588.1
1991/92  10.6       9.9        31.9    93.7     53.9  542.9
1992/93  16.2       9.8        29.9    87.7     67.1  562.1
1993/94  16.5       9.7        27.2    82.9     65.2  558.6
1994/95  8.9        11.3       23.1    84.5     63.2  524.0
1995/96  16.5       8.6        25.0    86.2     59.4  538.4
1996/97  22.9       15.9       29.8    98.5     62.2  581.9
1997/98  19.2       15.7       24.3    94.2     67.5  610.1
1998/99  21.5       13.3       24.1    103.1    69.3  589.6
1999/00  24.8       16.4       26.9    96.4     63.1  586.2
2000/01  23.8       16.2       26.8    104.9    60.8  583.7
2001/02  24.0       15.5       20.6    91.8     53.3  580.3
2002/03  15.0       14.0       15.4    104.4    45.9  572.6

* Includes all 15 members of the European Union

Source: Foreign Agricultural Service, USDA

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BARELY STARTED?

Soybean futures prices actually peaked at $12.90 in the 1970s and not at $16 or $17, but this is the way a continuation chart depicts the long-term price trend in current terms. Viewed this way, this year's rally is barely noticeable and suggests that prices have a long way to go before matching previous runups. Inset is an enlargement of the sideways range in soybean prices since 1998. The 2002 rally exceeded the highs of 1999, 2000 and 2001 but started to stall out at the $6 level, which has been a key psychological price level in the past.

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