Dairy rally delayed a year

The abolition of European Union milk quotas in January has created a flood of extra production, with Europe being the main driver behind a 2.1 per cent volume rise in the three months to July following similar increases earlier in the year.

"The substantial depreciation of the euro in the past nine months could continue to assist European producers prices and foster more surplus growth in the EU than we currently forecast," warned US-based Rabobank global strategist and expatriate Australian Tim Hunt.

From already extreme lows, world prices for key dairy commodities fell 12pc to 26pc in the three months to September, although they did recover some ground last month.

However, with the exception of New Zealand, prices did not fall enough to encourage a production slowdown in the big global dairy export regions.

In Australia, milk production is up about 2pc for the start of the current financial year, following 3.8pc growth in 2014-15, according to Dairy Australia's latest situation report.

It doubted if the international supply and demand imbalance was likely to rectify sufficiently for prices to match or exceed "average" levels in the short term.

However, falling global commodity prices had been slow to impact Australian farmgate prices because of a strong domestic market, said Dairy Australia's Amy Bellhouse.

"While volume trends are mixed, supermarket sales of the major dairy categories continue to grow in value," she said.

"White UHT and fresh flavoured products are significant contributors to increased milk sales, with an ongoing trend towards full fat product and butter is still driving the outstanding growth story in dairy spreads."

However cheese sales volumes fell in line with rising unit prices.

Commonwealth Bank's agribusiness commodity analyst Tobin Gorey noted NZ whole milk powder futures prices fell sharply again early this week and last week.

"The market still seems to be pausing for thought after a recent breathtaking rally, but if these falls continue then it is hardly a pause," Mr Gorey said.

Research by Rabobank's global analysts reported the dairy market, which had recently hit six-year lows for milk powder and whey (below $US2000 a tonne), was likely to see production volumes tighten in the first half of 2016 and some demand lift as buyers took advantage of low prices.

But "a proverbial mountain of milk products, notably milk powder," had accumulated during the market downturn, Mr Hunt said.

Rabobank's quarterly dairy outlook suggested it would take most of the first half of next year for markets to consume the backlog of stocks before prices came under significant pressure later in 2016.

However, that recovery would by restricted by the strength of the US dollar, restrained buying activity by China - which would only stabilise, rather than increase - and the market's reliance on marginal buyers who were less likely to pay more than $US3400/t for benchmark whole milk powder.

Buying by Russia had been much-reduced this year and would remain so with Russian buyers kept out of the market in 2016 because of its import ban.

Russia and China combined bought 27pc less dairy product in the three months to July this year than in 2014.

"But while the world is awash with milk, the rebalancing of fundamentals for new milk is now near at hand," Mr Hunt said.

"Milk prices are painfully low in NZ and will become more uncomfortable in many regions in coming months.

"Together with a modest growth in consumption within export regions, this will reduce exportable surpluses of new milk by 7pc in the first half of 2016, tightening the market somewhat and changing the market sentiment."

A strong El Nino climate pattern could increase weather risks in key production regions including dry conditions in Australia and excessive rainfall in northern Argentina.

Dairy Australia also noted input costs were adding to many farmers' margin pressures.

"Water availability and affordability remain a serious production constraint in irrigation regions, while feed grain prices are still relatively high," Ms Bellhouse said.

Supplies of quality hay in sheds were limited, and there were varied expectations for the new season fodder crop.