Stockyard Trading is a fundamental, discretionary program that trades strictly livestock - cattle and hogs. Like most fundamental agricultural traders, we spend a great deal of our time evaluating and formulating our outlook on these markets. It is our experience and extensive knowledge of the commercial livestock industry that provides us an ongoing informational edge in trading these markets. For those of you less versed on the commercial livestock industry, we thought we would take this opportunity to share some of the basics with you - structure and factors - that shape these markets.
First, let’s talk about the cattle market. The first stage is cow/calf operations where the cows gestate for 9 months, calved [birthed] and kept until they are weaned - usually about 6 months. The cattle are then transferred to a backgrounding operation where they are put out to pasture to grow and increase weight - approximately 6 months. From there, they go to the feedlots - about 6 months. At this point, they are shipped to the packer operations where they are slaughtered, cut-up, packaged and shipped to wholesalers or retail [grocery and restaurant].
While the process is the same, the structure of the hog industry is much different. Typically, there is a single operator – farrowing to finishing – rather than the 3 different operators in the cattle industry. Less typically, there can be 2 operators – breeding/farrowing/nursery and growing/finishing. Hogs gestate for 3 months, 3 weeks and 3 days before farrowing [birthing]. The growing and finishing usually takes around 6 months. Then, it’s off to the packers, and from there to wholesalers or retail [grocery and restaurant].
There are a multitude of factors that may affect one or more segments of the supply chain by impacting operating margins. On a basic level, supply side operating margins are determined by the cost of livestock, the cost of “gain” [increasing the weight of the animal] and the sales price. The variables that impact these 3 determinants vary and often are interrelated. For example, weather impacts the cost of feed but more extreme conditions may affect the cost of gain. This may push prices higher. However, if the cost of feed becomes too high and/or due to extreme cold or heat the rate of weight gain drops too much, herds will be thinned [reduced] and prices will usually drop initially. However again, lower herd size eventually pushes prices and the cost of livestock back higher. As you can see, herd size [inventory] is a continual and interrelated variable by itself. Disease can be another factor.
Demand can also be influenced by a multitude of variables including seasonal demand, import/exports, the costs of competing meats and the price itself. Lower meat prices lead to greater demand that eventually leads to higher prices. If prices get too high, what they call demand rationing occurs as consumers switch to cheaper competing meats and/or reduce overall meat consumption. This, in turn and over a period of time, results in lower demand and eventually lower prices, and so on. This interaction between supply and demand is the biggest of all. Price is the overriding mechanism that serves to balance.
When assessing market conditions, there are a number of data points to monitor. The USDA disseminates a number of reports: Cold Storage, Livestock Slaughter, Cattle on Feed, Cattle Inventory, Hogs and Pigs Inventory and daily kill numbers. On a daily basis, we also monitor cash livestock and meat quotes as well as note changes in open interest. We also keep track of major trend in grain prices and other pertinent macroeconomic data that may impact exports. On a monthly basis, we track U.S. monthly import/export data by country.
Evaluating data is both science and art. Our years of experience has allowed us to hone our skills of interpreting the data. A couple of things to remember is that it is not so much the absolute supply but the difference between actual and expected supply that drives price movements. The same applies to demand-related “surprises.” At times, some simple logics and seeing the forest for the trees can be good guidance. For example, we are inclined to rotely take the USDA data, i.e. the Hogs and Pigs report, at face value, and base our expectations on whatever the agency says…after all, they are the most scientific and comprehensive surveys available, and one must have a very good reason to do otherwise.
One of the greatest challenges one faces as an analyst is to correctly identify the forces causing the market to behave as it does/has. The market is sensitive to different factors at different times. Even when it is performing as expected, it is easy to make a false diagnosis…which can eventually lead to trouble. We use both technical and fundamental analysis to evaluate trading opportunities in the market - Sometimes focusing on one more than other.
The traders for Stockyard, Kevin Bost and Martin Callaghan, each have 30 years of experience trading livestock. Martin Callaghan has been a member of the CME since 1975, operating as a floor trader in the Lean Hog pit. Mr. Callaghan also ran an independent brokerage firm, Martin T. Callaghan Inc. [1978-2010]. He has been actively trading hog and cattle futures since 1975. In 1987 Mr. Bost became an Economist at the USDA Economic Research Service. Bost has served as Director of Supply Chain Management for Wendy’s International. He currently consults for several large restaurant and supermarket chains on meat forecasting and risk management.
Kevin Bost produces a detailed and forward-looking, weekly assessment of beef, pork and chicken market, as well as a weekly cattle and hog strategy report. His research is available to subscribers. More information about his publication, Procurement Strategies Inc., can be found at www.procurementstrategiesinc.com.
Stockyard Trading is a managed futures CTA. The traders use fundamental supply and demand indicators such as inventory levels, government reports and information from producers, suppliers and consumers for developing cattle and hog market forecasts and directional bias. The strategy trades outright futures contracts with a minor option overlay. Technical analysis is used for timing of entry and exit. The minimum trade level for a managed account is $50,000. The CTA is fully disclosed. *Stockyard Trading is a d/b/a of “Big Shoulders LLC”.
Contact Information for Stockyard Trading: 312-957-8119, info@stockyardcta.com
