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A Deal with China

Published on Monday, October 14, 2019

Newswires were a frenzy last week as "Phase One" of a deal with China came to agreement...or at least an understanding.  While nothing has been carved in stone, there appears to be terms agreed on by both sides after a series of negotiations in China last week.  Chinese negotiators have expressed their desire for another round of discussion before declaring that any deal has been made.  However, the fact that mutual understanding still stands after four days since the first announcement of "a deal" sets a new record for agreement since the confrontation began in April 2018.

Why is this such "a big deal"?  Simply put, agriculture depends on it.  A look back at the history of sales to China is a bit revealing.  See Chart.  Keep in mind that since the peak in 2012, value has given way to volume.  In the years 2012 -2014, agricultural markets were sitting near record highs.  In the years that followed, prices fell to much lower levels.  In that time, greater quantity of goods sold had to work to offset the lesser per unit value of those goods in order to achieve large total revenues.  2018 was purely a measure of the trade conflict that to this day has caused a slow down regardless of whether you speak volume or value - and agriculture has suffered.

Last week's news brought forward the possibility of 40 to 50 billion dollars in annual sales to China over the next couple of years.  It does not take a rocket scientist to see that this represents more than double of peak historical performance.  Should this become reality, it is a very big deal.  However, understand that this does not mean that we will need to double production.  But in the case of soybeans, the impact is still sizable.  See chart above.  While the Chinese will not invent new demand for soybeans, we stand to regain a portion of market share that has been lost not just in the last year but over the course of a decade as South American production has grown.

That is where this gets interesting.  Even if they buy more from the US, other suppliers (soybeans in the case of S. America) will be working to also remain competitive.  So while we may have to raise more soybeans to meet this "new" demand, other suppliers will be going head to head with us so as to not lose their access to the Chinese market.  In South America, where expanded soybean production and annual record crops has become the standard, competition will rise up to keep markets in check.

In the meantime, several points of action are warranted.  Buyers of protein should be considering contracting their needs while sellers of soybeans should be placing targets against key points of resistance in the market.  Additionally, the premium that has been injected into the market of late on soybeans should be protected with option coverage on any bushels not yet priced.  Since rising soybean prices may translate to increased value in other sectors, producers should be prepared to start getting sales made in the face of these early developments.  Markets are quick to reward early excitement (much of that could already be built into current prices), but slow to add value as actions unfold.  Contact us to sort through a plan suitable to your operation.