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Corn Prices May Provide a "Shock" to 2007 Cattle Markets

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There are two major factors beef cattle producers need to watch - the corn market and the weather. Cattle-Fax is projecting Omaha corn to average $3.50 per bushel in 2007 versus $2.15/bu in 2006. This forecasted price for corn, along with a slightly higher cattle inventory, gives a 550-pound steer an average price of $1.10/lb. in 2007 versus the $1.25/lb. producers received in 2006. These projections have a 750-lb. steer bringing $97/hundredweight in 2007 compared with the $107.50 they brought in 2006.

Using the basic economic concepts of supply and demand, we can visualize the beef industry simply. First, consumers, through their purchases at retail outlets, provide information about their willingness to pay (demand) for boxed beef products. Using this consumer price information and the amount of boxed beef in inventory (supply), a market price can be obtained for boxed beef. Next, the boxed beef price is used by packers to determine what they can afford to pay for live cattle. Once the price of live cattle and the cost to feed cattle to slaughter weight are known, a price that feedyards can afford to pay for feeder cattle is obtained. Once the feeder cattle price is given in the market, the price of calves is then determined using the price of feeder cattle and information about the additional costs necessary to get them to feeder cattle weight.

In an efficient market, where buyers and sellers have no influence over the prices they pay, there is zero economic profit in the long run because the market tends to bid out the profit. However, if the market is not believed to be efficient (i.e., buyers or sellers do have influence over the price they pay or charge), then economic profit above cost of production may exist. An example could be niche markets where sellers are providing the market value-added products instead of commodity products.

Note that unexpected shocks can and do occur that will have a ripple effect in the market (e.g., an increase in corn prices). Such shocks can, for instance, change the cost of getting feeder cattle to a desired slaughter weight. In the case of higher corn prices, the prices of boxed beef and fed cattle are not likely to change because their cost structure has not changed and the demand for the product has not changed. However, the increase in the cost of gain for feeder steers in the feedyard will naturally have the effect of decreasing the price feedyard managers are willing to pay for feeder cattle. In turn, this will likely suppress the price paid for calves. So, as a result of an increase in commodity corn prices, the cow-calf producer is likely to suffer in two ways: he will receive lower prices for his calves; and he will incur an increased cost for supplemental feed on the farm.

One thing that will change is that heavier cattle will likely continue to be discounted by the packer during these times, implying that a stocker operator will likely have opportunity to benefit from taking cattle to heavier weights than they would normally, assuming they have a reasonable cost of gain and providing they have the resources to do so. This is because the value of gain does not decline as fast in stocker operations, and an incentive will exist for the feedyard manager to put less weight on the cattle if it is going to cost more. All this implies that the margins for stocker operator will be available; however, it is recommended that stocker operators reduce their risk of a major market adjustment by using risk management tools such as futures, options and forward contracts.