Stabilizing the Cattle Market

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By Chris Clayton
DTN Ag Policy Editor

OMAHA (DTN) -- Livestock futures can be as volatile as spring weather in the Southern Plains and contracts were soaring higher Tuesday after producers spent part of last week complaining about downward price swings.

Live cattle contracts opened higher Tuesday in part because consumer spending was up 1% in April, the biggest monthly gain in more than six years and considered bullish for livestock demand, noted DTN Analyst Todd Hultman. Additionally, Hultman added, prices are moving up because frozen beef supplies in storage are down about 7% from a year ago -- a sign that beef demand has been keeping up with increases in beef production.

June live cattle contracts closed $1.40 higher per cwt on Tuesday at $121.10, while the August contract was up $1.625 at $118.05.

The June live cattle contract has moved from a March 17 high of $130.50 per cwt down to a low in late April of $114 before another rise, fall then rally again this month.

Cattle producers are questioning those price swings, arguing the futures price isn't following cash market fundamentals. Those issues were front and center last week as livestock producers testified before the Senate Agriculture Committee.

Joe Goggins, a Montana cattle producer and livestock auctioneer, represented the U.S. Cattlemen's Association at the Senate hearing on Thursday. He told senators the futures contract was failing as a risk management tool for both cow-calf producers and feeders. He has stopped using the futures market to hedge.

"The futures board is no longer a viable tool for us due to the volatility of the market and the amount of money it takes to hold a position," Goggins said. "It's really becoming a serious problem I think, especially from the risk management side."

Tracy Brunner, president of National Cattlemen's Beef Association, also raised concerns at the Senate hearing about the disrupting effect of high-frequency trading in futures markets. He told senators that cattle producers want more data from CME on the high-frequency trading in the markets.

"In many other markets it gets covered up. Because cattle are a somewhat unique commodity because we're a perishable commodity," Brunner said. "We can't put the corn back in the bin and wait until the market stabilizes."

Brunner also told senators that without integrity in the futures market cattle producers will abandon it.

Ed Greiman, a northern Iowa cattle producer and chairman of the NCBA's marketing committee, said in an interview Tuesday that NCBA leaders have been meeting more frequently with staff from CME Group since some grievances were aired at the Cattlemen's Convention in late January. NCBA and CME have put together a working group looking at ways to ideally slow down the market swings and level the playing field for producers.

David Lehman, managing director of Research & Product Development for CME Group, said in an interview Tuesday that CME has taken multiple steps to deal with volatility. Following the convention, CME Group created new rules dealing with trader messaging to regulate the number of messages people can put on the market compared to their actual trades. Entering orders, modifying and canceling orders on the cattle futures market is now limited depending on the volume of actual trades by a trader. Since the rule went into effect, the messaging on the live cattle market has declined by about 15%.

CME also reduced trading hours for livestock contracts, essentially by removing the overnight trading session. During a roundtable on livestock markets put together by Sen. Heidi Heitkamp, D-N.D., staff from CME also discussed introducing "circuit breakers" in the live cattle market as a way to slow down the market.

"We haven't finalized this yet. We're still discussing it with the working group of NCBA and getting their feedback and answering their questions on how it would work so this is still ongoing," Lehman said. "It's another step that we think could help reduce some of the volatility in the contract."

Greiman said members of the NCBA working group haven't formed an opinion on whether the circuit breakers should be implemented. "It's not that we're against them, but it's not that we're for them either. We don't know what they will do to the market."

Goggins said in the Senate hearing he believes the violent moves in the market are due to expanded trading limits and high-frequency algorithms used by noncommercials (speculative traders).

The volatility in cattle markets especially hits producers who have to borrow money to buy cattle. Banks require as much as a 75% hedge on the cattle they wish to buy, but the margin calls then limit the actual money left over to buy cattle, Goggins said.

Goggins noted that in early May he sold cattle at $134 to $136 cwt, but the futures board on the June contract then dropped to $121, creating a $15 basis for his sales.

"That's proof fundamentals don't have much to do with this market," Goggins said. He added, "There is no way the cattle market moves that much on a cash basis."

Heavy volume pushed prices lower in April, leading to more questions about where the trades were coming from. Greiman added in an interview that when the futures market starts to sell off then the cash market has to follow it. "It just takes weeks to get it back."

"That's one thing we've been asking for from the CME is more transparency," Greiman said. "Who is participating on these high-volume days? What's causing this when we just go down, down, down for about a week?"

Greiman said the price swings on the futures market can change the price of live cattle by $150 a week. "It just doesn't make any sense how fast this can all happen and that's what's bothering us."

Heitkamp asked producers at the hearing last week, "How do we get trust back into the cattle market?" Heitkamp also wanted to know if there was a way to get more cattle sold on a cash basis "There is always room for mischief when you have a thin market and we don't have much participation. So my question is: How do you expand participation?"

Cattle producers concur that the volume of cattle sold on the live market has been declining for 20 years as more and more producers sell on a formula basis to packers. Greiman agreed that producers need to make a conscious effort to try to negotiate with packers for delivery of live or dressed cattle, or utilize auctions.

"That would provide more prices, more fundamentals that the market can see what is going on in the live market," Greiman said.

Lehman pointed out the market was at record highs in 2014 before prices came down pretty rapidly in 2015 and this year. When markets go through such a cycle there is always volatility associated with it that can stress the industry. The decline in live sales also hurts.

"The cash market structure is changing pretty significantly over the last several years. There are fewer and fewer cattle being negotiated between cattle producers and packers so there are less underlying cash market pricing information and price discovery going on," Lehman said. "That's also a contributing factor to the volatility we're seeing in the market."

Chris Clayton can be reached at chris.clayton@dtn.com

Follow him on Twitter @ChrisClaytonDTN.

(CZ/SK)