The most recent USDA estimate for U.S. corn production shows farmers producing 13.9 billion bushels of corn in the 2019 crop year, down from 14.4 billion bushels in 2018. However, many farmers and industry participants believe this number remains too optimistic. Only time and the weigh wagons will tell who gets it right. Even so, the markets have settled in on a price estimate of approximately $3.90 a bushel for the current crop year, which is in line with the USDA’s estimate for cash prices. This is the same price as last year, so a 5% drop in production has failed to spur any price increase. What’s happening with the demand such that a supply decrease hasn’t triggered a price increase?
On the face of it, the USDA has kept demand flat year over year. Total usage remains flat at 14.1 billion bushels with ending stocks tightening slightly. The more telling development is the lackluster demand growth since the 2017/18 crop year. Total usage has shrunk by 0.7 billion bushels, matching approximately the same 5% decline in this year’s production.
Every single one of the big demand drivers for corn continues to show weakness. Much of the weakness can be traced to the relatively strong dollar compared to alternative sources of grains and oilseeds. Feed for animals, the real long-term driver, remains basically unchanged at 5.2 billion bushels. Over the last six years, meat production has shown a relatively strong expansion of 2.2% compounded average growth rate. This has been matched by domestic consumption driven by better wages and income, but the exports have lagged with a 1.7% growth rate. Most of that export growth happened before the dollar strengthened in 2014. In the end, U.S. meat exports will grow based on the growing middle-class demand around the world, but the timing of the growth will be dollar and trade dispute dependent.
The real question mark for long-term demand for corn comes from the ethanol segment. The USDA has plugged in a slight increase in corn utilization for ethanol over last year. This flies in the face of the ethanol production numbers tracked by the Energy Information Agency (EIA). The weekly numbers posted by the EIA show a remarkable slowdown in ethanol production starting in June 2019 and accelerating into the most recent October data. Domestic ethanol growth usage continues to run at a very modest 0.9% gain on a year-over-year rate. This growth remains positive even though gasoline usage has declined approximately 0.3%, thanks to better fuel efficiency and modest growth in miles driven. This shows that the lower ethanol prices can gain some blender utilization. The refiner exemptions that suck up all the press’s attention are for extremely small operations and don’t really move the needle.
The bigger changes for ethanol are coming from the import and export markets. The U.S. exports approximately 9% of its ethanol production. The EIA doesn’t publish weekly export numbers, but it does track weekly imports. This mismatch of data frequency makes the most recent dynamics much more difficult to track. The official monthly numbers through June show the running 12-month average exports down 4% and the imports up 81%. Since exports dwarf imports, the two numbers need to be considered carefully in context.
Likewise, it makes sense to ask why the U.S. exports and imports ethanol at the same time. The answer involves logistics and seasonality. Given the strong U.S. dollar relative to Brazil, the only source of U.S. imports, west coast blenders can load a ship in Brazil and have it delivered to California cheaper than buying U.S. ethanol in Iowa and railing it to Los Angeles. In comparison, most (90+%) of U.S. ethanol exports rail up into Canada or barge down to New Orleans and out to the world. Surprisingly, 31% of the U.S.’s 2018 exports went to Brazil based on seasonality and price arbitrage.
The weaker Brazilian Real has reversed this flow especially into the important West Coast (PADD 5) market. The week ending 9/20/19 recorded 791,000 barrels of imports which is second only to the record of 854,000 barrels imported in 10/12/12, which was the peak of the shutdown of ethanol due to drought and record-high corn prices. Since the EIA doesn’t break ethanol exports out of the other oils category, it is impossible to say what the precise export numbers were for the same week. It stands to reason that if the U.S. is importing near-record amounts of ethanol that it most likely isn’t seeing strong exports. This dynamic seems to be confirmed by the fact that a strong slowdown in ethanol production has not led to a strong decline in domestic ethanol stocks. The weakness in net exports has more than compensated for the production slowdown, leaving the market well supplied.
The most recent price ratios for corn and ethanol show why producers are shutting off supply. The USDA’s official numbers through July show that the last twelve months have offered ethanol producers an even worse price ratio for ethanol and corn than was the case with the 2012 drought. The unofficial numbers tracking August and September show that this ratio will continue to worsen as the profitability of 2018 becomes a distant memory. These price ratios will slow production, not increase it.
This leads us back to the USDA current ethanol usage projection. It shows a modest 2% increase in corn utilization while the net exports are getting clobbered by the strong dollar and trade dispute with China and Hong Kong. China was not a significant buyer in 2018 (bought 1.3 million barrels out of 41 million), but year to date China hasn’t bought a single barrel directly from the U.S. The dollar strength and the competitive price of Brazilian ethanol will continue to take market share from U.S. ethanol exports. This net export dynamic would argue for weaker corn utilization by the ethanol producers which implies larger carry-out stocks and price weakness. Producers and buyers should keep a careful eye on this key segment. It has the high frequency data creating a leading indicator for demand strength which will help everyone avoid being blindsided by a later USDA adjustment.