Linkage ends | Rising production and falling demand weighs on oil
Oil and corn prices used to be inseparable, but now the two commodities are more like oil and water.
“The relationship between corn and oil was very strong (during) the build-out of the U.S. ethanol industry, which occurred from 2006 until the middle of 2010,” said Dan Basse, president of the AgResource Company.
“We’ve now lost that, as we would consider the U.S. ethanol industry to now be mature.”
Last year’s drought in the United States also helped break the link between corn and oil prices as corn rallied in the summer to the highs achieved in 2008.
Crude oil, by contrast, has been in a sideways pattern for most of 2012 and is forecast to start falling.
The amount of corn ethanol required to fill the U.S. biofuel mandate is capped at 15 billion gallons starting in 2015. That’s not a lot of room for growth from the 13.2 billion gallons used in 2012.
Basse said the result is that ethanol is no longer the big driving bull force behind corn.
“We’re seeing a cycle where climate is becoming much more important. Ethanol is no longer talked about much in our business anymore. It’s all weather,” he said.
“If we ever have favourable weather, we would think that corn prices could move back down to $3.50 or $4 (per bushel) over a several year period, and that would surely take the bloom off the ag inflation story.”
AgResource is forecasting that normal weather in the U.S. could result in ending corn stocks exceeding two billion bushels in 2013-14, up from the U.S. Department of Agriculture’s forecast of 602,000 bu. in 2012-13.
“That would drive corn prices back down to $4 and would probably for several years give the farm community some sizeable losses relative to their overall cost structure today,” said Basse.
However, normal weather doesn’t appear to be in the cards. The U.S. Great Plains region is in the midst of an extreme drought that is forecast to persist at least through April 30.
If the weather turns around and the region receives good rain in May and June, he said, then the outlook for corn and other grain and oilseed prices would become very bearish very quickly.
Even though the tie between corn and crude prices has been severed, farmers are still big users of fuel and have a vested interest in where crude prices are heading.
A 2012 study by Agriculture Canada determined that every one cent per litre increase in the price of fuel collectively costs Canadian farmers $27 million annually.
The U.S. Energy Information Administration (EIA) recently released its Annual Energy Outlook 2013, which forecasts that the Brent spot crude oil price will decline to an annual average of $97 per barrel in 2013 from $109 per barrel in 2012. It is forecast to remain below $100 until 2018.
The advent of advanced technologies that will increase U.S. oil production is part of the reason for lower crude prices. Production is expected to grow annually through 2019, when it will peak at 7.5 million barrels per day, up from 6.3 million barrels per day in 2012.
Slumping gasoline demand is the other big factor. Fuel economy standards are expected to increase new vehicle fuel economy for light-duty vehicles to 47.3 miles per gallon in 2025 from 32.6 in 2011.
Carle Casale, chief executive officer for CHS Inc., the largest co-op in the U.S., echoed many of the EIA’s findings in a presentation he delivered at the DTN Ag Summit in Chicago in December.
CHS markets more than two billion bushels of grain and oilseeds and three billion gallons of refined fuel annually. The farmer-owned company operates two refineries, 1,770 kilometres of pipeline and 10 fuel terminals.
“We couldn’t have envisioned a decade ago that the U.S. would find itself in a position of growing energy independence,” he told the conference.
Casale said a recent study predicts North America could be energy self-sufficient by 2035, if Canadian and U.S. production are combined.
“That’s not very far away, folks.”
It is going to lead to dramatic political and economic consequences for the country. People will wonder why the United States ever sent troops to the Middle East.
Casale said gasoline consumption is on the decline because the U.S. car fleet is not growing.
“Everybody has got their two-and-a-half cars at home. We don’t need a whole lot more,” he said.
The U.S. car fleet is 11.5 years old on average. Gas consumption will fall when those old cars are replaced with more fuel-efficient vehicles. The U.S. is expected to produce more gasoline than it consumes by 2015.
By contrast, diesel fuel is the energy of commerce. It is used in trucks, tractors and trains, and consumption will continue to grow at the rate of the U.S. economy.
The problem is that every two barrels of crude oil produces a barrel of gasoline and a barrel of diesel fuel, yet demand for one of those commodities is on the rise while the other is faltering.
“We’re going to see an increasing spread in this country between gasoline and diesel,” said Casale.