Pork holds significant global importance as a source of meat. However, did you know that pork can also be traded through the Lean Hogs futures (HE) which is listed under the CME Group?
In this post, let's explore the world of Lean Hogs futures and the exciting opportunities they offer to fellow traders.
An Overview of Lean Hogs Futures (HE)
The US is one of the top producers and consumers of pork and pork products. In addition, it consistently maintains its position as the leading or second-largest exporter, with exports typically accounting for over 20% of commercial pork production on an annual basis.
As such, it should come as no surprise that Lean Hogs futures is one of the three livestock futures traded at the CME Group. It represents hogs that qualify for processing at approximately 275 pounds.
In the US, hogs are primarily produced in the Midwest states of Iowa and southern Minnesota, as well as in eastern North Carolina. The carcass of a market hog weighs around 200 pounds, yielding approximately 155 pounds of lean meat, which forms the core of the lean hog futures contract.
Hedging plays a crucial role in the Lean Hogs futures market. Hog farmers use these futures to protect themselves against declining prices, while feedlot operators, meat packers, and importers use them to safeguard against increasing prices.
Lean Hogs Futures (HE) Contract Specs
Lean Hogs futures (HE) provide a means for sellers and buyers, including hog producers and packers, to effectively mitigate the potential impact of unfavorable price fluctuations in their operations.
Each HE contract:
Represents 40,000 pounds of lean hogs and has a minimum price increment of $10.00
Is quoted in U.S. cents per pound.
They are listed in February, April, May, June, July, August, October and December contracts respectively.
Trading takes place from Monday to Friday, between 9:30 a.m. and 2:05 p.m. US Eastern Time.
Lean Hog futures are settled in cash at expiration, based on the CME Lean Hog Index on the last day of trading.
Export and Import of the Lean Hogs Market
In 1995, the US made a successful transition into becoming a net exporter of pork, largely due to remarkable productivity gains in the industry. With time, its share of globally exported commercial pork would rise to 29% in 2020, marking a substantial surge from a mere 2% in 1990.
(i) Export
Since 2000, the US has consistently been ranked among the world's top 5 annual pork exporters. In the past decade, it has successfully shipped over 5.4 billion
pounds of fresh and frozen pork cuts to international markets.
In 2020 alone, the US achieved a maximum export of 7.3 billion pounds. When it comes to pork meat exports, the US closely trails the European Union, with Canada, Brazil, and Mexico following at a distance.
The top markets for US pork products are Mexico (about 1/3 of U.S. exports), Japan, China/Hong Kong, and Canada. These 4 countries have accounted for 75% of US pork exports in the last decade.
(ii) Import
A considerable quantity of live hogs, including those intended for immediate slaughter and finishing, are sourced from Canada.
Factors that influence the Lean Hogs market
Having studied the grain markets such as soybean and corn, I realized a major difference between the grain and the lean hog markets:
As livestock such as hogs cannot be stored like grain, it is necessary to bring them to market in an efficient manner. As such, the lean hogs market is impacted by many factors along the way.
These factors are:
i. Supply Side Factors
Market Changes:
Any changes in market price could influence the supply of hogs.
For instance, a rise in hog's market price may cause an increase in hog supply as farmers seek to take advantage of higher prices.
Cost of inputs
The increase in the price of soybeans and corns, which are used to feed hogs could also impact the supply.
To deal with rising prices of animal feeds, farmers may reduce the amount of time animals are being fed.
Weather & diseases
Severe weather or diseases could also disrupt supply and production.
As an example, hot summer weather can be unbearable for hogs as for people, as it affects their ability to eat which leads to a decline in carcass' weights. Unfavorable weather conditions will also impact the logistics of hogs across the country.
Price of substitute goods
Since beef can be consumed as a replacement for pork and vice versa, any drop in one could cause farmers to increase the production of another to benefit from the advantageous price.
Government policies
The production and supply of pork can also be influenced by government programs and interest rates.
Government policies such as import/export bans can disrupt the supply and demand dynamics in the pork market.
ii. Demand Side Factors
Changes in population size, and income
A change in population size and income means increasing purchasing power, which may lead to an increasing demand for meat, such as pork.
Price of substitute goods
Since beef and pork are close substitutes, any changes in the price of beef will affect the demand for pork.
Consumer preference
Consumer considerations and trends can also sway the demand for pork. For instance, a shift towards veganism caused by health concerns or ethical values could significantly reduce the number of people consuming meat.
Food service industry
The food service industry is an important consumer of pork products, and any changes in the sector can affect pork demand significantly.
For example, when restaurants closed during COVID-19 pandemic outbreaks, demand for pork plummeted in the US.
These factors are closely intertwined; however, they all contribute to the movement of lean hog futures prices. By understanding the fundamental drivers of supply and demand, it is possible to forecast lean hogs futures price movements.
This allows traders and investors to make informed decisions and effectively manage their risk.
iii. Livestock cycle
The livestock inventory and production cycle is also helpful for traders to understand the potential direction of the Lean Hogs market.
A cycle refers to the low points or high points in herd inventory. A full cycle consists of the time between one trough and the next trough, or one peak and the next peak. A hog cycle typically lasts for an average of 4 years.
There are 2 main phases of a cycle:
Expansion phase:
The expansion phase is where producers retain female pigs to increase the herd. Doing so reduces hog supply and cause price increase as a result.
As increasing offsprings lead to an oversupply, prices would then drop, triggering producers to send their herds to the market, leading to the contraction phase of the cycle.
Contraction phase:
During the contraction phase, there are more females that are going to the market instead of the breeding herd.
This tends to increase supply and could cause prices to decrease further.
According to the CME Group, the expansion phase is decided by the time it takes for female animals to reach breeding age and produce offspring, while the contraction phase is influenced by price fluctuations.
iv. Seasonality
Seasonality in the supply and demand of hogs throughout the year will also impact the hogs market:
Some of these seasonalities include:
Calving and farrowing: The period where newborn hogs enter the herds.
Summer BBQ season: High demand for meat due to an increase in BBQ activities
Seasonal holiday increase in demand: Increase in meat demand, such as ham during winter and Easter celebrations.
Verdict: Explore the potential of livestock market via Lean Hogs futures
Lean Hogs futures are an excellent way for traders to gain exposure to the hog market and manage their risk. Understanding the fundamentals discussed above will help traders better anticipate price fluctuations and manage their positions accordingly.
In the subsequent articles, we will take an in-depth look into different livestock markets, as well as their respective seasonalities.
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Disclaimers
Any of the information above is produced with my own best effort and research.
This post is produced purely for sharing purposes and should not be taken as a buy/sell recommendation. Past return is not indicative of future performance. Please seek advice from a licensed financial planner before making any financial decisions.
Leverage is a financial tool that comes with its advantages and risks. Please learn and understand both the upsides and downsides of leverage before using it for trading.
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