By Augusto Semmelroth | Source: ABS, MLA, ACU
After the strong liquidation of sheep over the last two years, turnoff has finally started to slowdown. This points to the start of a flock rebuild phase, and therefore sustained tighter supplies this year and into 2016 and 2017, if seasonal conditions allow. This article investigates where mutton markets will be headed in the long-term and also what’s in store for the market over the coming months.
Although eastern states sheep slaughter remains above the five-year average and much stronger than 2010/11, numbers have already started to contract compared to 2014. According to Meat & Livestock Australia’s (MLA’s) weekly slaughter stats, year-to-date sheep slaughter is already around 25% below 2014. This suggests producers have already started to hold breeding stock in order to rebuild their flocks.
Looking at the long-term prospects, MLA forecast national sheep slaughter to fall 26% year-on-year to 7.5 million head in 2015. This should support firmer mutton prices going forward. But how strong is the relationship between supply and prices in the long run, and what can we infer from MLA’s supply projections?
Figure 2 shows the sheep demand curve based on supply and price. We have been able to identify that, since 2000, there have been three key demand curves for sheep, on which prices would respond differently from changes in supply. What is striking, though, is that from 2003 until 2011, the correlation between supply and price was remarkably strong (99%). This means that changes in supply explained 99% of the changes in price.
Between 2012 and 2013, that relationship broke down as demand for mutton weakened and prices moved below that trend line. Last year, the opposite occurred as demand clearly improved to see a shift in the demand curve higher. As a result, sheep fetched much higher prices at similar supply levels than in 2003-11.
Taking a slight leap of faith, and assuming the slope of the demand curve will remain similar to 2003-11, a 25% contraction in supply should support mutton prices at around 400-450¢/kg cwt in 2015, on average. That’s around 25-40% above 2014 average levels.
In the short-term, we also expect more upside for mutton markets, particularly if seasonal conditions turn out to be above average as the BOM suggests. That will invariably lead to a further tightening in winter supplies as in 2010 and 2011. This is likely to see the NSW mutton discount to the Eastern Trade Lamb Indicator (ESTLI) narrow to around 100-20¢/kg cwt by June/July (figure 3).
The outlook for sheep markets is very positive for both the short and long term. Although prices are already at historically high levels, we expect more upside over the next few months as supplies will most likely dwindle.
Our view is that demand for lamb and mutton remains fundamentally strong, and the relatively disappointing performance of the market since February has to do with the supply glut created by record export levels from both Australia and New Zealand. Yet, this headwind should alleviate going into winter, which will support firmer prices.
The upside potential of mutton market in the short-term will intrinsically depend on the performance of lamb markets going forward. At this stage, we reckon the Eastern States Trade Lamb Indicator (ESTLI) will have a crack at 600¢ soon and perhaps at 625-50¢/kg in June/July. With that in mind, and assuming the mutton discount to lambs is likely to narrow further, eastern states mutton prices could head towards 500¢/kg cwt in winter.
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