Markets -- Sheep Market Expansion

August, 2004 - Sheep Market Expansion
by Dr. Julie Stepanek Shiflett

Improved rainfall, high ewe prices, reports that producers are holding back ewe lambs and the extension of the ewe-lamb retention program are all positive signs that we will see inventory gains in the next few years.

Favorable rainfall in some key sheep-producing areas has encouraged producers to rebuild flocks. Although pockets of dry areas remain, the feed outlook has improved overall. In fact, the Northwest is reporting very good feed conditions in many areas.

Another positive indicator of expansion is that producers will be able to take part in another round of the ewe-lamb retention program. One of the reasons the program was extended was to enable those producers who could not participate last year due to severe drought a chance to enroll in this worthwhile program. It is estimated the ewe-lamb retention program has achieved a 24-percent retention rate.

A remaining concern is whether processors will withstand the reduced margins they are facing, given lower kill numbers and higher slaughter-lamb prices. However, the fact that they are still in business is the best sign that they indeed can. It is assumed that packers have developed strategies to manage the margin squeeze that must accompany this long stretch of relatively high slaughter-lamb prices.

Overall, packers cannot find the kill numbers they want. There is, therefore, a lot of excess production capacity at the moment. In general, if a feedlot or packer is operating at only half capacity, it does not necessarily mean their costs also are reduced in half. They still have to pay many 'fixed' costs, regardless of the number of the lambs they feed or slaughter. Processors are fabricating or slaughtering other meats, such as veal and goat, to support margins.

Another possibility is that packers may be reducing costs through efficiency gains from improved technology. Within the last few years, the largest packers have made several improvements in their plants that improve efficiencies and sometimes even help to lessen the effects experienced during times of tighter margins.

The fact that ewe lambs are being held back contributes to already tight supplies. In June, year-to-year slaughter numbers were down 11.5 percent and production declined 8.7 percent. In June, 184,631 head were slaughtered, down from 208,602 head the previous year. Year-to-year production fell, from 13.8 million lbs. last June to 12.6 million lbs. this year.

Slaughter-lamb prices increased in June, and meat prices held steady and, in some instances, increased. The San Angelo average slaughter-lamb price rose by $2.63/cwt. in June from $97.50/cwt. in May. The San Angelo average slaughter-lamb price averaged $100.13/cwt. in June, up year-to-year from $97.50/cwt. Average direct feeder-lamb sales were $106.87/cwt. in June, down from $105.46/cwt. in May, but still higher than the average of $100.61/cwt. last June.

The gross carcass value was $220.80/cwt. in May, but rose to $235.91/cwt. in June. Leg prices fell ($242.29/cwt. to $231.04/cwt.), but racks, loins and shoulders gained between May and June. It is expected that leg prices soften during this time of year and that middle meats gain. The eight-rib medium rack increased from $450.06/cwt. to $526.91/cwt. The trimmed, 4-inch, loins rose from $393.86/cwt. to $460.95/cwt. The shoulder increased from $153.19/cwt. to $167.27/cwt.

Although demand is strong and perhaps even growing, it is unknown how high prices can go. At the end of June, slaughter-lamb prices fell 4.5 percent; however, wholesale meat prices fell only 1.5 percent. This difference may represent a lag in the adjustment of meat prices to lower slaughter-lamb prices; however, it may also indicate that slaughter-lamb prices were bid too high and not supported by the meat market. The difference between the carcass value and the live value increased as slaughter-lamb prices fell. The live-to-carcass price spread increased since mid-April, reaching $23/cwt. by the end of June.

The average retail price of domestic and imported lamb fell from $5.04/lb. to 4.23/lb., between March and April. Domestic lamb fell nearly a dollar, from $5.12/lb. to 4.13/lb. while imported lamb fell from $4.87/lb. to $4.54/lb. Since 2001, the price difference between domestic and imported lamb has narrowed. At the national level domestic lamb averages about 16 cents more per lb. than imported lamb. However, the narrowing of prices is a blessing for the lamb industry because the smaller the price difference, the less likely consumers are to substitute imported lamb for domestic lamb. As retail prices fell in April, the volume sold jumped up. Sales of all lamb more than doubled between March and April -- from an index of 57 to 124 (recall the index is set at 100, the average monthly sales in 2001).

Lamb imports in April totaled 14.4 million lbs., down from 17.7 million lbs. in March. Mutton imports totaled 1.8 million lbs. in April, down from 4.5 million lbs. in March and a year-to-year decline of 1.7 million lbs. The USDA Economic Research Service expects total lamb and mutton imports to reach 188 million lbs. in 2004. This number may be an underestimate, as demand remains steady and domestic supplies remain tight.

Live sheep and lamb exports to Mexico were halted before resuming in mid-June as the Mexican government ordered inspection of U.S. livestock into Mexico. Between January and May, 32,361 head were exported, down year-to-year from 87,112 head. In contrast to early 2003, no breeding females or breeding males have been exported to Mexico in 2004. Live sheep exports to Canada for the periods of January through May 2003 and 2004 were roughly one-fifth of 2002 levels.

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June Wool Market Brightened
The combination of stronger wool prices in Australia as well as increased wool volumes during June were a testament of heightened international demand. A complementary factor was that the Australian dollar depreciated 2.6 percent against the U.S. dollar during June, making the Australian market more attractive (Woolmark 6/25/04). Stronger demand may also be attributed to the strong Chinese presence in the market. Chinese year-to-year wool exports were up in the first trimester of 2004, as were domestic wool sales.

As the Australian season drew to a close, one cannot help but guess what the next season holds. It is anticipated that Australian shorn-wool production will increase for the first time since the 1996/97 season due to reduced drought conditions (Woolmark 6/25/04). One estimate is that production will reach 500 million kilograms greasy. The ABARE (an Australian forecaster) predicted that average prices in the 2004/05 season would fall 3.5 percent (Woolmark 6/25/04). However, if demand holds, the 4-percent increase in volume may not necessarily bring lower prices, particularly because of China's presence in the market. It is reported that three new topmaking mills will soon begin operation in China -- a signal that the Chinese economy is growing and that prospects for future growth are bright.

The largest production increase in Australia is anticipated for the medium-fine (19.6-22.5 um) wool as improved weather reduces production of drought-induced finer wools. Prices for finer wools may rise as supply shrinks, but strong demand may be able to support prices across all micron ranges on average.

U.S. wool prices weakened further in June from seasonal highs seen in February through April. Wool trading was very slow in June. Some buyer interest was evident, but at lower price levels. In recent years U.S. wool prices have become more competitive with Australian prices, eroding our comparative advantage. To the disadvantage of the U.S. wool market, the strengthening U.S. dollar will help boost sales of Australian wool. After a couple years of trading relatively weak, the U.S. dollar began to gain value in March and averaged 0.69 USD/AUD and 0.63 USD/NZD, respectively, in June.

Apart from Grade 70s wool, most grades of clean U.S. wool fell between May and June. Grade 70s (19.15-20.59 micron) wool averaged $2.46/lb., Grade 64s (20.60-22.04 micron) was $2.29/lb., Grade 62s (22.05-23.49 micron) was $2.18/lb., Grade 60s (23.50-24.94 micron) was $1.99/lb., and Grade 58s (24.95-26.39 micron) was $1.75/lb.

Editor's Note: Julie is open to comments and questions and can be reached by e-mail at juniper_economists@tds.net or by phone: 303-619-9975.

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