Dairy sector warned to brace for possible price drop

While the full impact of COVID-19 on the global dairy market is still unclear, the worst is yet to come, the report, titled A Global Storm is Coming, warns.

Rabobank senior dairy analyst Michael Harvey said the "upward trajectory" milk prices enjoyed in late 2019 had stalled, with prices falling in the first quarter of 2020 as the pandemic spreads and global dairy fundamentals deteriorate.

Based on this global trend, he warned a more cautious approach to southern export milk prices was necessary, particularly considering a global market down cycle similar to that of the global financial crisis was very plausible.

As foodservice and hospitality industries wind back in the wake of COVID-19, the report predicted a sizeable global demand slowdown was imminent, and the surge in consumer demand, as supermarket shelves are stripped bare, would be short-term.

"Around the world, in major dairy markets, demand will inevitably fall as unemployment rises and discretionary spending slows," Mr Harvey said.

Spring flush in the northern hemisphere, where milk production had gradually gained pace, would also add to the supply and pricing pressure.

"We forecast modest growth through the spring flush, but, at a time when dairy demand is expected to be considerably weakened, this could have significant consequences on global pricing," he said.

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Under the worst-case scenario, demand would significantly weaken, inventories would build up across supply chains, and dairy commodity prices, particularly in Europe, could fall a further 10 per cent to 15pc from present levels.

Under this scenario, the report predicts the commodity farm gate milk price for 2020-21 across the southern export region may sit at $5.20 kilogram Milk Solids.

But there was some comfort, with the low Australian dollar boosting export returns and domestic market premiums flowing through to help bolster farmgate returns.

"The Australian dollar is likely to be lower than it was during the global financial crisis, an almost unprecedented fall that will be a game-changer for the Australian export sector, helping support farm gate returns in 2020-21 and proving key to preserving farm gate milk prices above breakeven levels," he said.

Mr Harvey said the ongoing battle for milk supply would ensure there were premiums above the commodity mix on offer in the market, with some dairy farm businesses insulated from the global market downturn thanks to contractual supply arrangements and/or exposure to domestic consumer markets.

He said Rabobank's base case scenario for an annualised southern export milk price in 2020-21 stands at $5.70/kgMS.

"For these farm businesses, it will take longer to reflect global price movements, while a branded consumer market will also provide a safely net during the 2020/21 season," he said.

The current in-home consumption surge has also supported a short-term boost, with retail price increases working their way through the value chain and reflected in farm gate milk prices.

But with the Australian economy headed towards recession, he said this demand would be short lived.

As a result of the global market forces, Mr Harvey said, more conservative opening prices from Australian dairy exporters were warranted, and dairy farm businesses should budget accordingly.

At the farmgate, better seasonal conditions in 2020-21 would relieve feed costs, while elevated cull cow prices and a buoyant live export sector would also provide opportunity to support business margins.

"There's been a period of lower margins, which we expect will continue through the coming season, so dairy farmers will need to carefully consider the financial merits of rebuilding equity versus major investments and/or expansion projects," he said.

"However we do predict margin respite coming in the form of a return to growth in milk pools, better plant utilisation and signs of 'peak competition'."

The Australian milk pool was expected to close out the 2019-20 season at 8.4 billion litres - a 4.9pc drop on the previous year, but the report predicted strong growth in 2020-21, pending seasonal conditions, with a 4.3pc lift in national milk production forecast.

Mr Harvey said the Australian dairy industry must equitably reverse the downward trajectory of milk production over a period of multiple seasons, with supply chain finetuning along the way.