By Andrew Woods | Source: AWTA, AWEX, ICS
When price relativities stay at extreme levels for an extended period, farmers react by changing their enterprise mix. In this process it is often assumed that demand has changed, thereby underpinning the recent price structures be they high or low. While it can be tedious it is useful to keep an eye on supply and its relationship with price, it is a worthwhile exercise as it improves our understanding of what is actually happening. This article refreshes supply drivers behind fine wool premiums and broad wool discounts.
Figure 1 compares the year on year change in the rolling 12 month cumulative supply of 17 micron and finer wool with the year on year change in the 16 micron premium to average merino micron price from 2004 to September. Where the red bar chart is above zero it shows increased supply, which is generally associated with the green line below zero (meaning a lower premium). The supply fell slightly in 2015 and then picked up again in early 2016, thereby keeping downward pressure on fine wool premiums.
The last time the supply of fine wool had a solid down cycle was in 2010-2011, in response to the good seasonal conditions of that time. Eastern Australia is set to have a similar pattern at least through to mid-2017, which means we should see the supply (which snuck below zero in September) fall by a lot more than it did in 2015, with support for fine wool premiums improving as a result.
Demand which is made up of the overall demand for apparel based on macroeconomic conditions in the main wool consuming countries and also of a fashion component may be weak for fine wool. However the increase in supply in the period 2012-2014 was large and played a big role in the small premiums of recent years.
Figure 2 shows a similar analysis for 21-23 micron supply compared to the discount for 23 micron to 20 micron, from 2004 onwards. Notice how this part of the market has only had a small rising cycle in supply, again in 2011, during the past decade. Supply did pick up slightly in 2015 but this cycle was aborted by the drought in the south eastern regions. The market has been consistently starved of 21-23 micron wool out of Australia. The wonderful prices we have seen in recent years for broad merino wool owe quite a deal to the continuous shortfall in supply we have had. This is not a sustainable trend.
As of September the cumulative 12 month supply of 21-23 micron wool was some 4% below year earlier levels (the actual September volumes were 10% higher). Seasonal conditions point to the supply rising through to mid-2017 at this stage, which will put downward pressure on the prices for 21-23 micron wool in relation to the average merino micron price.
Broad merino prices have been helped greatly during the past decade by falling supply in Australia. They will be tested in the coming year as supply starts to increase year on year. Their prices should weaken relative to 19 micron and finer prices. On the other hand the supply of fine wool looks set to fall meaningfully for the first time since 2010-2011, which will help lift premiums up from their depressed levels of recent years.
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