Large export margins are here for another year

LARGE EXPORT MARGINS ARE HERE FOR ANOTHER YEAR

With significant surplus grain supply relative to shipping capacity, the potential for Australia’s price to outperform the world price is very limited.

Current year to date conditions and seasonal forecasts indicate that Australia is heading for near record crop production. Highlighting again, like last year, the country’s imbalance of shipping capacity to crop output in big years. The imbalance in Victoria and South Australia is notably larger vs last year, which further speaks to the strategy in those states considering the good margins last year.

Shipping capacity is the commodity of finite supply, so with barley, canola and wheat surpluses all trying to get out, the commodity which reflects the most attractive export margin governs trading managers allocation decisions. 

In other words, if Canola export margins are $150, then wheat and barley margins need to be similar in order to get priority shipping. Margins beget margins.

EXPORT MARGIN EXAMPLE (30/09/22)

Vs.

EXPORT margin = $55/mt

ASW and lower grades inc SFW express a larger margin scenario vs APW with current multigrade spreads. 

WHEAT

We are supportive of world prices, very bullish local export margins and don’t see potential for local prices to outperform world prices given the volume of crop vs export capacity (see strategy recommendation below for appropriate action).

World situation:

The major 8 exporter balance sheet or stocks:use calculations are tight, but within historical norms. The major exporters excluding Russia and Ukraine are historically tight, which is what we are seeing expressed in today’s global market via high prices. Price action is largely driven by low export availability, which is driven by the war and interruptions to supply chains in both Russia and Ukraine.

Overall, production is not the problem today, as the Russian crop continues to get bigger, with some analysts moving to record 100 Mill mt production figures, vs 75 mmt last year.  Global production forecast paired with restricted exports out of the Black Sea region sees global wheat stocks building which should eventually have a bearish impact once conflict/sanctions/export disruptions stop and Black Sea grain can move freely to market. This is a major flag for almost unavoidable wheat price deterioration once the conflict is over, or the market predicts some kind of significant resolution to conflict.

The world needs 205mmt of exports per year, or 17mmt per month. Despite the conflict, Russia and the Ukraine are forecast to supply 53mmt of these exports (25% of global requirement!) . 

Ukraine is forecast to export 11mmt of wheat vs. 18mmt last year, despite a 12.5mmt drop in production. The export corridor agreement only secures safe passage for 3 ports that represent about 60% of Ukraine exports, it excludes the largest ag ports which is a big limitation in itsself.

The export corridor agreement was only for 120 days with the renewal due late November and comments from the Russian side already negative. 

Given Putin’s vocal intent to change (or scrap) the agreement and the current pace of exports through the corridor only just on pace for targets, coupled with a damaged upcountry supply chain and drone attacks on Odessa port this week it is likely that the Ukraine export numbers have some risk to the downside, with little reason to expect over performance at this point.

The record crop expectation in Russia has led the market to expect record exports, which would usually be pretty reasonable. The market expects Russian wheat exports of 42 mmt, which is 9 mmt bigger than last year’s effort, with last year being limited by a smaller crop. Importantly, these exports are needed to service global demand given the tight stocks elsewhere in the world.

The problem is that Russian wheat exports were terribly slow for key July and August at the beginning of their new crop shipping season, with pace falling by 1.5 mmt or 20% vs 2021 season. The September performance is expected to be better, albeit still below last year’s number. During July and August the number of countries buying Russian wheat had almost halved to 23, from 45 a year earlier. And the number of wheat exporters has also decreased to 41 companies, versus 79. This is a continuing flag on Russian ability to meet its record export estimates and therefore a flag on world wheat price going higher to either kill demand or draw more exports out of other origins, including Australia. This scenario is very supportive of export margins.

The most wheat that Australia has ever exported is 27.5mmt or 2.3mmt per month and we should test a new record this year with the large crop, especially considering improvements in SA and Vic production. Any continuing issues or underperformance in other exporting countries could attract sharp premiums for exportable Aussie supply, which is a reasonable expectation today. The key is being able to export it.

India may be the next bullish surprise for the market. We have seen an 11 mmt reduction to production this season and only a 2 mmt cut to export expectation, as much of the business was already on the books or shipped. This is leaving stocks very tight at almost half the 5 year average – Definitely a minimum stocks scenario! Some market views on the crop have the situation even tighter than that, which is hard to believe given the lack of news on the subject.

To back this up, food inflation is rampant in India, with wheat flour exports banned and a 20% tariff on rice exports in place to try and reign it in. Wheat exports were briefly banned all together, before the govt. circled back to allow already booked business and govt to govt deals to ship.

Going forward, we may see India, which was the lowest priced exporter for this season, become an importer in the calendar year 2023. Potentially for record volumes.

We are about to enter the planting season for India wheat over Oct/Nov/Dec and while starting moisture is OK, the world will be watching the growing season very closely and all eyes will be on the finishing weather after the disaster we saw this year. We will update this on the way through.

If there is a problem with the India crop over the next 6 months it will translate into significant export demand for Australia and add bullish fuel for the export market, further increasing margin opportunity.

BARLEY

The world barley balance sheet is not building stocks in the same way that the wheat balance sheet is. Ukraine barley represents 16% of the world’s exportable supply (9% in wheat). Barley exports from Ukraine will fall more that 70% from last year, with current export pace showing potential for even lower!

Since shutting the door on Australian exports China has been heavily reliant on Ukraine barley. So the conflict there and the export cuts has forced them to lean heavily on French supplies, creating space for Australia when middle Eastern consumers step up. 

In Australia, we are forecasting an acreage drop of 10% year on year. Post election we were slightly hopeful that China would come back to the party, but it seems the Taiwan issue is preventing our governments from reaching common ground. 

Barley export margins today are not as large as wheat and canola. Which means that the barley market locally needs to fall, or the offshore market needs to rally. A combination of both will likely ensue to see barley shipped at the required pace. 

Looking further into next year, like we said earlier. The barley balance sheet is relatively tight both locally and globally, once we get harvest out of the way. The Major 6 Exporter Stocks:Use is as low as its been at 8.5%. 

It has a tight exporter balance sheet like wheat, but it doesn’t have the inaccessible stocks to fall back on in Russia and the Ukraine. Its longer term balance sheet is constructive, especially with the recent strength in corn markets that has seen barley pricing back into many destinations including Philippines this week. This will drive global market strength as we see traditional barley users forced to market and should support export margins via a higher global price.

To the Aussie farmer, this isn’t that helpful given that supplies are landlocked and there will still be plenty sold at harvest, but it’s still worth noting, as it’s a better product to hold potentially, if that’s a marketing consideration.  

CORN

World corn balance sheets are near record tightness and weather conditions are not supportive of any immediate reprieve, with Argentinian drought the most topical point today as we approach planting. US stocks are tight, reliant on an optimistic yield from a crop which had a tight season. In Europe the situation is similar or worse and we have seen confirmation of our thoughts there via significant ~13 mmt crop cuts.

What does this all mean? It means that Australia’s feed grains will have larger demand from elastic end user regions, primarily in Asia. Today, our feed grains look cheaper as corn prices increase, which is creating big opportunities for feed wheat and barley, with both calculating well vs corn and beginning to buy demand. This is a good thing for those with export capacity, with feed wheat export margins growing rapidly as local MG spreads drop away. 

CANOLA

We are not as close to canola as wheat and barley, but our analysis suggests that it’s a good product to sell pre harvest given the market’s structure.

With Canada’s production moving from 12.6mmt to 20mmt this season (5yr Avg 18.5mmt), Australian oilseed is going to face stiff competition. Competition it missed last year, thanks to a halving of Canada’s exports. Problems in Canada were not widely realised until late in the season, which saw a harvest spike, prompting a rally in Australia. We think a harvest rally in Canola this year is very unlikely given the volume of crop coming off, the high flat price, increased offshore competition and another near record Australian crop driven by increased plantings (reportedly up by 450,000ha). 

MARKETING STRATEGIES 

So what do we (Flexi Grain) do to ensure the best price outcome for our growers? We secure elevation space which guarantees our growers the export price and therefore the export margin, which we expect to get bigger. 

As we mentioned earlier, stocks are building in key exporting regions, so presuming average production going forward and a de-escalation in the current conflict, we (and the world market), sees values eroding over time. This means that the sooner we can get grain exported the better the price outcome. Below chart shows carry adjusted prices based on current export market inverse. The inverse refers to the fact that export prices are higher in Q1,Q2 than in Q3/Q4 when we have new competition from Northern Hemisphere production.

Short term the opportunity is getting your Australian grains participation in the export market. The commodity in limited supply today is export capacity, it holds the key to solid price outcomes. 

MARKETING STRATEGIES TO CONSIDER TODAY – 2022/23

This is a complex and dynamic market environment, lacking a clear direction. One can paint several scenarios based on which world leader pushes which button. Below are our strategies.

1) GET ACCESS TO THE EXPORT MARKET IN THE FIRST HALF OF 2023 

This is easier said than done, the only way for a grower to achieve this is by partnering with someone who has been able to secure elevation/export capacity and is willing to administer the sale on your behalf. Flexi Grain has limited export capacity which will initially be allocated to the 2022 hectare contract growers. 

2) SELL LOCAL, BUY WORLD PRICE INSURANCE VIA A CALL OPTION 

This presents a great opportunity to lock in a downside price, whilst having  participation to any world price blow up.   

Failing export participation, we feel that a conservative approach is selling grain for cash before harvest and buying (possibly not concurrently) a call option. The cost of your option is absolute, enabling you to lock in a downside price outcome while keeping your foot in the door for any world problems that may arise (while only risking the financial cost of the call).

3) AVOID SELLING IN DECEMBER AND JANUARY 

High cash prices, large crops and high export margins. There will be a lot of grain hitting the market at the same time. Traders will be wary of overcommitting, preferring for farmers to finance surplus grains, given inverse potential and the higher interest rate environment. 

4) AVOID OFFSHORE HEDGES FOR LOCAL GRAIN

Australia does not have a supply problem, the world does. We don’t have enough shipping capacity to supply the world. Today, we see offshore hedging as a coin toss.

Because of the large Australian crop, we are not supportive of non-local hedging strategies as we see a huge risk in correlation detachment. If the conflict escalates and interferes with Russia/Ukraine export potential, then futures markets and world export prices will respond accordingly. But with a sloppy oversupplied local balance sheet, we don’t feel that the internal price will. So there is a risk of world prices going up, hurting the hedge position of a local price which is stagnating or slipping. 

5) SELL CANOLA SOONER THAN LATER

Canada’s crop is back to normal after below average production last year. Will keep more competition from the export market and we anticipate prices will drop when farmers commence more active marketing.  

If you would like further information or like to learn how you can access the export market contact Dustin Lovell on 0428861988.