Ethanol remains the driving force behind the robust demand and prices in the corn market, but the industry that produces the fuel is undergoing some structural changes that bear watching.
“It’s an ethanol story – that’s the world we live in with feed prices,” says Mark Welch, economist with Texas A&M University.
Looking at supply and demand in the grain market, demand is strong and demand is high, he says. “Other factors are supporting what is happening in the grain market, but ethanol is the driver. It’s the big machine behind these current prices,” says Welch.
For this reason, he adds, it’s important to look at what’s happening in the structure and organization of the ethanol industry.
“We’re seeing a larger and larger percentage of ownership of ethanol production capacity by major oil companies,” he says. Current statistics peg that number at 10%, but Welch says that’s a “minimal” number in terms of what is going on behind the scenes with smaller percentages of ownership by the major companies of some plants.
Changing structure of ethanol industry
If this trend continues, he says, it could completely change the structure of the ethanol industry. “Then we’d be talking about blending caps and how much ethanol we could move through the fuel supply,” says Welch. These kinds of structural changes could alter the industry, he says.
“Murphy Oil recently bid on a newly constructed plant in Hereford, TX, that had been sold back to its creditors. That 100-million-gallon plant was built for $200 million and never ran for a day. Murphy Oil has stepped in and offered to buy the plant for $25 million – 12.5¢ on the dollar. That’s changing the economics of running an ethanol plant. There’s a significant difference in cost structure going on,” he says.
The ethanol market, says Welch, is very important in continuing to support the demand characteristics currently being seen in the grain markets, says Welch.
Numbers from previous years show, he says, that grain use can go down during a recession. But in the current recession – which is the worst since the Great Depression – use has continued to climb, and biofuels have been a big factor.
“The underpinning support of demand from the biofuel market has supported grain use even in these global economic conditions that we’re hopefully emerging from at this time. In my mind, that is very positive for grain demand and grain use as we move out of this recession and into more robust economic conditions,” says Welch.
Grain consumption continues to grow for those grains that are used for feed and fuel, he says. “Is it human food – not so much,” he says. “Rice, over the last 10 years, is actually down by 1% on a per-capita basis. Wheat is up 2%, and of course there’s a small feed component there. The real growth has been in soybeans and corn. Soybeans are up 24% over the last 10 years and corn is up 20%.”
In Kansas – “the wheat state” – for the first time since USDA has been keeping records, planted corn and soybean acreage is higher than wheat acreage.
“The Corn Belt is shifting west and south. This is an indication that farmers are adapting to new hybrids and new technology, and they’re able to grow corn and soybeans in places where we didn’t give them much serious thought before. It’s now an economically viable option.”
The worldwide situation is similar, he says, with a long-term trend of less wheat and more corn and soybeans. The trend can be tracked all the way back to 1980, says Welch.
World supply and carryover
Turning to the forecast of worldwide corn supplies, measured as days of use on hand, he says the 2010-2011 marketing year is about 60 days. The 20-year average would be about 90 days. Sixty days, he says, could be the new normal.
“The U.S. situation has tightened up considerably since earlier estimates from this summer. For the last two crop years, we have seen record production, but we have increased our usage in excess of what we’ve been able to produce.”
According to USDA demand categories, there has been a slight dip in feed and residual use for 2010, exports are up some, but ethanol is still the driving force, says Welch.
Much of the price response seen recently in the corn market is due to lowered expectations on yield prospects for the 2010 crop, he says. “Last year, we were coming off a record crop of 164.7 bu./acre. USDA’s most recent estimate is 162.5. Even though the market has risen in response to a yield shortage, we may not have accounted for all of the acres out there. Until we know for sure, there’s a lot of speculation.”
It has been a while, says Welch, since the corn crop yield average was below the trend line. “With the advances in technology and modified seed, we hear remarks that there will be no more crop failures. I’m not quite on that bandwagon, but the productivity we’ve built into this corn market is amazing. If we do have a crop shortage, given our carry-over stocks, things will get serious in a hurry.”
The supply and demand numbers tell an interesting story, says Welch. “With the reduction in yield expectations, we’ve seen a drop in production estimates. And with higher prices, we’ve dropped domestic use somewhat. With what’s happening around the world, we’ve responded to that with higher expectations for exports.”
Ending corn stocks are well below last year, he says, and well below the five-year average, demand has increased, and last year’s crop is being used at a faster rate than was thought. All of these factors have created the current supply situation.
Ethanol prices, says Welch, have increased dramatically over the last several months, from about $1.50 to about $2/gal. “As we’ve seen prices going up late this summer, higher ethanol prices have compensated for that.”
At $2/gal. ethanol, the ethanol plant can afford to pay about $4.40/bu. for corn and stay in the black, he says. Lower ethanol prices or higher corn prices will push the plants back in the red.
Looking at U.S. plantings for 2011, Welch doesn’t think an anticipated increase in anhydrous ammonia will affect growers’ decisions to plant corn. “I don’t see that as a factor in terms of farmers not planting corn. There is enough incentive in the market to attract the acres we need today. We’re not going to lose acres to soybeans at these prices. We’ll see more corn acres in 2011.