Current Indicators Point to Ample Low-priced Feedstocks for U.S. Biofuels but Weak Processing Margin

AgMRC Renewable Energy Monthly Report
April 2015

Robert Wisner
University Professor Emeritus and Biofuels Economist
Ag Marketing Resource Center
Iowa State University
rwwisner@iastate.edu

At the start of the U.S.2015-16 crop season, early indicators show a strong likelihood that supplies of feedstocks for the nation’s ethanol and biodiesel industries will remain ample next season, although corn prices may be modestly higher than in the current marketing year.  The new marketing year begins on September 1. Ample supplies should minimize concerns about food vs. fuel issues, although the strong U.S. dollar still makes that a concern in countries where corn is a dietary stable. Those areas are primarily parts of southern Africa and Latin America. Ethanol processing margins will depend on gasoline prices as well as whether Congress and the fuel industry work to make E-15 widely available.  A bill currently in Congress calls for the Reed Vapor Pressure waiver for E-10 to be extended to E-15 (1). That currently is a regulatory barrier for widespread E-15 marketing even though the Environmental Protection Agency (EPA) has approved its use in 2001 and newer cars and light trucks. 

Biofuels profit margins will depend strongly on whether the biodiesel tax credit is renewed, as well as EPA’s blending mandates for 2014 through 2016 calendar years.  Recent reports indicate EPA may announce the mandates in early June of this year.

Feedstock supply availability and costs are important not only for biofuels producers, but also crop and livestock farmers, firms supplying crop inputs, businesses handling the products and co-products of the biofuels industries, and consumers.

Prospective corn supplies for 2015-16

Each year, USDA surveys crop farmers in the major producing area in late February and early March to get an early indication of the current year’s potential production.  This year’s survey was sent to more than 84 thousand farmers in the continental U.S. The results showed that corn growers intended to plant 1.5% fewer acres than last year. (2) That would be the 5th largest U.S. corn area on record.  With normal yields, the indicated acreage, while smaller than last year, would still produce almost as much corn as is currently being used.  More details comparing potential U.S. corn supplies with expected demand for the crop in the year ahead and potential prices are shown in our latest corn supply-demand projections at http://www.extension.iastate.edu/agdm/crops/outlook/cornbalancesheet.pdf. Our medium corn yield is based on favorable but not perfect planting and growing conditions in the major producing region.  It is one bushel below the 1980 to 2013 U.S. average yield trend.  We lowered the yield slightly from the long-run trend to reflect

• A likely increase in farmer use of lower-priced seeds because current new-crop prices do not cover full costs of production, and
• A potential reduction in fertilizer use for the same reason. 

The intended corn planted area and this yield (165 bushels per acre) would produce a crop approximately 5% smaller than last year but only 1.1% less than projected corn use for the current marketing year. We caution that these are still quite tentative indications of crop sizes. Historically, farmers have had a strong tendency to plant slightly more corn than indicated in the Prospective Plantings report. 

With a small increase in corn use in the 2015-16 marketing year, this combination of production and use would leave ending U.S. corn carryover stocks on August 31, 2016 at approximately a 5.8 weeks supply.   While that would be down from an anticipated 7 weeks supply this year, it would be considerably larger than 2010-11 through 2013-14 carryover stocks.  Minimum August 31 corn stocks needed by the grain industry are approximately 3.8 to 4.0 weeks supply.  That is the supply needed to maintain end of season exports, processing, and feed demand until the newly harvested corn is widely available in commercial channels.   If stocks are expected to be at or less than a 4 weeks supply, prices increase to encourage increased farmer and grain elevator selling of remaining old-crop supplies and to slow corn exports and use at ethanol plants.

Impact of varying yields

At this early start of the planting season, the medium yield appears to be a reasonable expectation.  Our supply-demand projections also show yields 3% above and 4% below our medium yield.  At the higher yield, anticipated ending carryover stocks in weeks’ supply next year would be about the same as this year and would be well above trade needs.  Lower prices would be anticipated, with a slightly positive impact on ethanol processing margins but negative effects on farm income. With the moderate reduction in the average yield, expected carryover stocks would decline to about a 4 weeks supply and a moderate increase in corn prices would be expected. Ethanol profit margins in that case would be likely to decline unless offset by rising gasoline prices. An expedient announcement of EPA’s 2014, 2015, and 2016 ethanol blending mandates would be very important for the biofuels industry to maintain ethanol production.

The historical relationship between ending corn carryover stocks and the U.S. season average corn prices is shown in Figure 1 below. Low stocks during the last few years have led to record high corn prices. With more adequate stocks, prices are expected to remain well recent record highs, but modestly higher than in the current marketing year. A lower anticipated U.S. average acreage and yield than last year and projections for substantially smaller crops than last season in Argentina, Brazil, South Africa, and Ukraine are the major reasons for expecting higher corn prices. These four countries are the major competing corn exporters. Crop projections for these countries, like the U.S., are still quite tentative.

Prospective prices & ethanol profitability

With the prospective planted acreage and a 165 bushel per acre U.S. average yield, our medium projections show a U.S. season average corn price of $4.20 per bushel and an Iowa average price of about $4.15 per bushel, with Iowa harvest-time average prices of approximately $3.70 per bushel (3).   The harvest-time prices could offer ethanol processors opportunity to profitably cover supplies needed later in the year, depending of basis prospects, the carry in the futures market this fall, and forward pricing opportunities for ethanol and DDGS. The projected season average corn price, with ethanol prices continuing at the current level would weaken ethanol profit margins from recently depressed levels.  That might cause some reduction in corn use for ethanol unless offset by an EPA announcement of 2015 and 2016 ethanol mandates near the 13.4 billion gallons “Blend Wall”. If Congress would extend the E-10 Reed Vapor waiver to E-15, that would encourage retail stations to install blender pumps and make that blend available to motorists with 2001 and newer vehicles, especially in the Midwest. Failure to extend this waiver to has been one of several factors deterring widespread increased E-15 use.

Gasoline prices

Gasoline prices in the next 15 months will depend on geo-political developments as well as the exchange rate of the U.S. dollar in world currency markets. Because crude oil is priced in dollars, the strong dollar has been a major contributor to reduced U.S. gasoline prices along with the sharp increase in U.S. crude oil production. Lower crude oil prices since late December have greatly reduced U.S. oil drilling and have slowed the upward trend in production. Some OPEC members recently expressed dissatisfaction with the strategy of not reducing production to support prices. Also, military action in Yemen causes uncertainty about the security of oil exports from that region. OPEC actions to reduce production and/or military action in the Persian Gulf-Yemen area could significantly increase gasoline prices.  As this is being written, the U.S. and Iran are sending warships to the Yemen coastal area, thus creating uncertainty about oil shipments and price trends. 

The bottom line with these developments is that oil and gasoline prices have significant upward price risk but without changes in the dollar’s value or increased political disruption in the Middle East, a large increase in gasoline and ethanol prices may not occur in the next crop season.   Higher oil and gasoline prices would allow the ethanol industry to more easily adjust to modestly higher corn prices and maintain corn demand for ethanol production.

Availability of vegetable oils for biodiesel

Soybean oil is the dominant feedstock for U.S. biodiesel production, although other feedstocks include animal fats and corn oil (4). In contrast to the smaller anticipated 2015 corn acreage, farmers indicated to USDA in late February and early March that they intended to plant 1.1% more acres to soybeans this year than in 2014.  Our tentative soybean supply, demand, and price projections with this acreage are shown in our balance sheet http://www.extension.iastate.edu/agdm/crops/outlook/soybeanbalancesheet.pdf.     

The soybean medium-yield supply projection for 2015-16 is based on the intended plantings, normal acres not harvested for beans, and a U.S. average yield of 44 bushels per acre. The yield is down 3.8 bushels per acre from last year’s record but matches the 1990-2013 trend yield and equals the second highest soybean yield that was harvested in 2009 and 2013. That combination plus sharply higher beginning carryover stocks than last year and slightly reduced soybean use in 2015-16 would be expected to keep ending 2015-16 carryover stocks at or near 360 million bushels. Resulting carryover stocks would be a 5.1 weeks supply, up very sharply from last years’ 1.4 weeks’ carryover. A forty-six bushels per acre yield, reflecting some trade analysts’ projections, would likely push ending carryover stocks above 500 million bushels to a 7.2 weeks supply. With that combination, we would expect the U.S. season average price to be about $8.25 per bushel, down $1.75 from the current marketing year.  Very tentative indicators suggest much of the decline in soybean value would come from soybean meal rather than oil.  However, the actual combination of meal and oil prices will be influenced by the size of foreign oilseed crops as well as the U.S. soybean oil yield per bushel and the demand for biodiesel. EPA’s biodiesel and advanced biofuels mandates for 2014 through 2016 as well as possible renewal of the biodiesel tax credit may have some impact on biodiesel demand and soybean oil prices.

Concluding Comments

Early and tentative projections point toward ample supplies of corn and soybean oil for ethanol and biodiesel production in the year ahead, with modestly higher corn costs but little change in biodiesel feed stocks costs. Modestly higher corn prices create risk that ethanol processing margins may decline from recent disappointing levels. In case of an adverse crop growing season, early announcement of EPA’s ethanol mandates for 2014 through 2016 could help maintain corn use for ethanol production. Similarly, mandates for biodiesel and advanced biofuels would help reduce uncertainty about biodiesel demand next season.

References

1    H.R.1736 - To amend the Clean Air Act with respect to the ethanol waiver for the Reid vapor pressure limitations under such Act and Erin Voeggle, "House bill to expand Reid vapor pressure waiver to E15 introduced”, Ethanol ProducerMagazine, April 15, 2015.

2  National Agricultural Statistics Service, USDA, Prospective Plantings, March 31, 2015.

3  University of Illinois projections released on April 16 show carryover stocks and projections similar to ours. See
Darrel Good and Scott Irwin, “Projecting the 2015-16 Corn Balance Sheet and Price Implications”, Farmdoc Daily, April 16, 2015.

4  U.S. Energy Information Administration, Monthly Biodiesel Production Report, Table 3, Inputs to Biodiesel Production.