From the September 2013 issue of Futures Magazine • Subscribe!

Quick and easy guide to livestock trading

We previously covered general grain fundamentals to monitor during the summer, key reports to follow and the 2013 picture (“Quick and easy guide to summer grain trading,” June 2013). Here, we tackle the less-understood, but opportunity-rich, livestock markets, namely cattle and hogs. We’ll provide a breakdown of the complex and offer a general taste of fundamental analysis. A framework for finding true value in pricing will be given. 

The value picture is drawn mostly by livestock balance sheets similar to those prevalent in the grain complex. However, instead of trying to estimate the amount left over, called ending stocks, the meat industry is priced off the amount left for the U.S. consumer in a given period. It is that measure, the supply left in the United States, that is the basis for price determination.

The implications of this discussion should be clear. Production decisions are made months in advance, without a perfect knowledge of demand for that period, and the market must find the right price to make that supply move through the system. This gives many opportunities for both sharp rallies and declines.

In “Balance sheet” (below), we see an example of the pork balance sheet for the coming fourth quarter. Separate numbers are used for cattle. We are not comparing these numbers against the first, second or third quarters because demand changes from season to season. Only a comparison against other fourth quarters is made.

In the meat world, analysts monitor pricing for the live animal, wholesale processed meat and retail levels using slightly different tools. The table shown here works well for finding true value at the live animal level for the general trader. Background tables of these per capita disappearance numbers can be found on the website for the U.S. Department of Agriculture (www.ers.usda.gov/data-products/livestock-meat-domestic-data.aspx#.UdcvwZys_Qh). 

Traders also can get a feel for the USDA’s own viewpoint on future production and trade figures in the back tables of the monthly Livestock, Dairy & Poultry Report (available at www.ers.usda.gov/publications/ldpm-livestock,-dairy,-and-poultry-outlook/ldpm228.aspx#.UdrshZys_Qh). 

For cash-settled lean hogs, you need to estimate the lean hog index on the expiration dates for futures. You either can compute where those dates typically fit into the quarterly average or move to a monthly format. Focusing on the current 2013 December contract, last year’s December 2012 price for the lean hog index was $82.59. Research suggests that we will see a slightly higher supply offered to the U.S. consumer this year. Excluding estimates of U.S. consumer financial health and competing meats, this would imply a slightly lower price for the 2013 contract.

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