NZ Dairy—Riding out the Storm

While drops in the GlobalDairyTrade auction prices in July and early August were "truly awful" for New Zealand dairy farmers, the recent collapse in dairy prices doesn't equate to long-term structural market change in the sector, according to our new report, Riding out the Storm—NZ Dairy Faces a Very Tough Cycle. The dairy sector is currently experiencing a severe cyclical downturn, but the mechanisms that will turn the market around have now been triggered, and a substantial improvement in prices is still expected by mid-2016.

Although prices collapsed...

Report co-author Rabobank senior dairy analyst Tim Hunt says the extent of the market collapse was—for most in the industry¬—"beyond expectation" and inevitably led to milk price forecasts for the 2015/16 season being slashed. "Given that NZ production costs have increased significantly since 2002, you have to go even further back to finding pricing this far below the cost of production."

The report notes that the global dairy market had already been well on its way to a correction in 2014—from previous record-high prices—with prices starting to fall in order to choke off a wave of milk supply and encourage demand growth. "Unfortunately, this downturn was then exacerbated by several other developments—including China slashing its purchases from the international market, Russia banning dairy imports from the EU and some other suppliers, plus EU dairy quotas being removed in April this year," according to Hunt.

A combination of factors has conspired to see New Zealand prices hit far harder by the downturn than those in other key dairy-exporting regions. "In this cycle, the pain has been asymmetrical, with New Zealand at the sharp end, and so far pretty alone," Mr Hunt said. "This has been for a combination of reasons—including a relatively strong New Zealand currency position, our small domestic market, and New Zealand dairy’s exposure to China and to whole milk powder, which are the worst-hit markets."

There is plenty of upside in the medium term

According to Rabobank New Zealand CEO Ben Russell, Rabobank's firm view is that the long-term fundamentals for the dairy sector have not been altered by anything seen in 2015, and there are strong reasons to expect that the medium term holds plenty of upside for the New Zealand dairy industry. "Contrary to some recent analysis and commentary on the New Zealand dairy sector, Rabobank’s view is the current price trough is part of an extended negative phase of the commodity cycle and not a structural, permanent change to supply-and-demand dynamics," Russell said. "While the season ahead will undoubtedly be difficult for dairy farmers, the bank is firmly of the view that prices will recover to more sustainable levels over the medium term.  Current market conditions are not the ‘new normal’, but a highly abnormal part of a difficult cycle."

New Zealand remains very well placed to continue to play an important—and overall profitable—role in this improved future for the global dairy industry, the Rabobank report says. But first it must ride out the storm.

Find more details on NZ dairy in the report 'Riding out the Storm—NZ Dairy Faces a Very Tough Cycle'

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