Almost too good to be true! Notwithstanding the equity market’s wild swings on May 6, nearly every indicator has been friendly for the market. It’s been a long time since it’s “felt” this good allowing the market an incredible run thus far in 2010.

First, the supply perspective - the beef complex is being bolstered by tight supplies on several fronts. On one hand the short-run perspective, cattle performance has suffered as a result of a harsh winter; granted, some of that we’ll get back because of compensatory gain but there’s also a portion that’ll never be realized no matter how many days-on-feed are provided – the cattle just can’t respond. That situation encourages increased marketing velocity to maintain sufficient production driving currentness and further keeps a lid on weight - a market-positive self-reinforcing cycle. Meanwhile, from a long-run viewpoint, there’s no indication that producers are readying to ramp up female inventory any time soon: both beef-cow slaughter and heifer shipments to feedyards remain active – favorable markets continue to pull both from farms and ranches.

Second, demand prospects also remain favorable. Consumers certainly appear to be reawakening, albeit somewhat slowly, from their recession-induced slumber. Restaurant performance (more on that later) coupled with booming pork prices have bolstered the wholesale beef market. And that’s all converged during a seasonally strong retail beef demand period.

Collectively those factors have allowed wholesale prices to stage a huge surge and have pulled live prices higher along the way. The Choice cutout has risen 14 out of the first 18 weeks in 2010 including a recent string of higher prices over eight consecutive weeks. Boxed beef prices slammed through the $160’s on their way to $170+ - price levels not seen since the summer of 2008 (see graph below). The cutout finished the first week of May almost 25% higher versus 2009-ending values – the equivalent of over $30/cwt or $225/head. Interesting to note, much of that strength has been driven by end-meats, versus middle-meats, per the second graph provided below. Live cattle prices have jumped accordingly from $80 just prior to Christmas to trading solidly at $100 in recent weeks.

Last month’s MMP included some discussion regarding consumer food-away-from-home habits. Notably, the category represents the largest number of consumers responding with reduced expenditures during the past 12 months. Simultaneously, it also represents the primary behavior where respondents intend to revert to pre-recession spending (for more see Strategy+Business, Spring, 2010). With that background and potential implications for the beef industry it’s important to follow up on some coverage provided last November: “…one of the major cutbacks affecting beef spending has been at the restaurant / food-service level: consumers are eating out less and cooking at home more…Spending trends have been, and continue to be, away from high-end and mid-scale venues in favor of quick-serve outlets. That’s an important pattern! Domestically-derived premiums for beef sales stem from restaurant traffic; both travel and leisure dining are fundamental to beef expenditures.” And amidst that conversation I included data representing same-store sales for the most recent quarter reported while posing the question about beef spending and consumer “willingness to reinvigorate leisure dining habits” if and when the economy began to turn around.

Here we are six months later - it’s a good time to take a fresh look at restaurant performance of late. The third graph below reflects the most recent quarter same-store sales performance (along with comparison from November’s MMP). Recognizing that financial results are lagging indicators, the trends provide some useful insight. Primarily, it’s clear that restaurant performance is improving as a whole; the negative year-over-year comparable sales trend has seemingly been halted. But most importantly are the relative shifts in terms of restaurant activity. Of special interest to the beef industry, winners include the likes of Red Robin Gourmet Burgers, Texas Roadhouse and Morton’s Steakhouse. On the other side, quick serve restaurants (QSRs) such as Burger King, McDonalds, Jack-in-the-Box have since lost some ground - not to mention Buffalo Wild Wings. It appears that consumers are indeed opening their wallets and shifting relative patronage from QSRs towards mid-level dining companies. That tendency should prove favorable to the beef complex going forward.

One final observation: investment funds (speculators) have jumped into the fray at the CME since the first of the year (see graph below). And on the other side, commercial shorts (hedgers) have gladly accommodated that buying interest (see final graph below). What’s played out is a real-life depiction of “normal backwardation” theory (not to be confused with “backwardation”); that is, futures prices rising over the life of the contract. Just a note of caution about market sentiment: that can’t continue forever; conventional wisdom typically warns that it’s time to turn bearish when everything, or everyone, appears bullish (and vice-versa). The height and duration of the current rally could potentially mean a sharp, ugly reversal. Tread carefully.



Source: Nevil C. Speer, PhD, MBA, Western Kentucky University